This article was originally published on Fool.com. All figures quoted in US dollars unless otherwise stated.
With the recent inflation news driving another massive stock sell-off, investors are once again getting nervous about the future. After all, high inflation means that the Federal Reserve is expected to continue to be forced into raising interest rates , which makes bonds a relatively more attractive investment. Higher interest rates also make it more expensive to borrow, which makes it tougher for businesses to invest in expansion, thus putting demand and growth at risk.
Within that context, it's pretty easy to make a case for why the stock market could crash again. On top of that, history shows that the market does crash from time to time. As a result, the answer to the question of whether the stock market will crash again is a simple one: Yes, it almost certainly will. The real question to ask, though, is when will it crash?
Are we there yet?
Despite that fear, the reality is that the S&P 500 is already down about 20% from its recent highs. That's a substantial drop already, and it does offer a sliver of hope that maybe the toughest part of the current market cycle could be behind us.
Still, it's important to remember that the market attempts to price stocks based on their future value-generating abilities, not based on what their past price movements were. A big reason stocks sold off so heavily when the recent inflation numbers were announced is that those inflation numbers were worse than expected.
When the market faces substantial negative surprises, it tends to price assets lower to reflect the higher perceived risk and/or lower perceived future returns. As a result, a big part of whether the market will crash again soon depends on how many more negative surprises we have ahead of us.
What can you do about it?
With so much uncertainty facing the market and the near-term future, it can be tempting to get paralyzed into doing absolutely nothing at all. While staying the course is usually a great strategy when it comes to taking part in any recovery that follows a crash, you have to have the right financial foundation in place to really do that.
As a result, now is a superb time to check on that financial foundation of yours and do what you can to get it shored up. That way, when the market does crash again -- whenever that may be -- you'll be in a better spot to take advantage of it. the On the flip side, if the market doesn't crash again within your investing career, having a solid financial foundation in place will still give you great peace of mind even in more typical market volatility.
Key to your financial foundation is to be in control of your debts. About the only reasonable debts to have when you're investing are ones where all three of the following are true:
- The interest rate is low -- interest-free or low single digits.
- The payment is low enough that it doesn't keep you from covering your basic costs.
- The debt serves a useful purpose for your future.
If your debt doesn't meet all three of those criteria, making it a priority to either pay off those debts or get them to where they do fit the bill can work wonders for your financial future.
Once your debt is in control, make sure you have a decent -- but not oversized -- emergency fund in a savings account, CDs, or other very liquid and secure vehicle. Three to six months of your living expenses is a reasonable target. Too much more than that, and you'll risk losing too much ground to inflation. Too much less, and you'll risk not having a large enough buffer to cover those ugly surprises that life throws your way.
With your financial foundation in place, it becomes much easier to focus on your future and the longer-term opportunities that stocks can provide. Indeed, if you get that foundation securely enough in place, it can even turn your perspective of market crashes to one where you appreciate the buying opportunities they can provide.
Get started now
The market's recent declines make it painfully clear that another crash is very possible. The sooner you get your financial foundation in place, the sooner you will get to a point where you can start seeing a market crash as a potential buying opportunity rather than just a reason to panic. So start putting your plans in place now, and make today the day you begin building the foundation that can help you emerge from the next market crash in a much better spot.
This article was originally published on Fool.com. All figures quoted in US dollars unless otherwise stated.
