What to Do When the Stock Market Crashes

Stock market crashes have occurred since the inception of the stock market. From the Great Depression in 1929 to Black Friday in October 1987 to the Great Recession around 2008 and the COVID-19 pandemic in 2020, market crashes are unpredictable and can happen anytime. 

Investors have struggled to predict when a crash might come. A market crash involves a sudden decline in prices across a majority of stocks that can result in significant losses. 

Market crashes can occur because of a variety of factors that cause a considerable sense of panic and speculation. Varied crises can cause the market to plummet.

Tip 1: Do Nothing

For long-term holders of stocks — those with a long-term time horizon — sometimes the best decision to make is doing nothing. If you plan on holding your stocks for an extended period, then retaining your stocks during a crash means you won't lock in significant losses in selling.

The benefit of this action depends on the situation and type of crash. For example, in hindsight, the plunge at the start of the pandemic would have been an example of a potentially good time to hold.

While it can sometimes be positive to stay calm, it’s almost impossible to know what will eventually result from a market crash.

Tip 2: Buy Low

Remember the old saying “buy low, sell high.” A time of market worries can be a good chance to buy devalued stocks. Prices will be considerably lower, and a stock market crash can offer a buying opportunity for investors.

In this scenario, you will be betting against the market's current sentiment, which can pose risks. However, prices will be significantly lower than in previous weeks, and you may see your investments pay off over time.

You may also see long-term value in a specific stock or stocks, in which case they may be available at a considerable discount.

Tip 3: Diversify

Diversify your portfolio. Even though market crashes are not extremely frequent, they inevitably occur at some point. A way to reduce the risk to your portfolio is not to have all your eggs in one basket, as banking on one stock or asset class can go wrong.

If one asset class is significantly impacted by a crash, another investment may not be.

Tip 4: Research and analyze

It is essential, especially during market dips, to understand your investments. Look back at your research to analyze and fully comprehend the risks to your positions. How will certain scenarios impact that investment? What is the risk to your portfolio?

In addition, stocks and investments over time can change. For example, new earnings reports, market news or economic conditions can influence your assets, so additional research will help you stay on top of the risk factors.

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The Current State of the Stock Market

The current state of the market can be seen as even more uncertain than usual. In 2020, the COVID-19 pandemic sent the market into a frenzy, and lockdowns cast massive doubt over the state of the economy. 

However, two years on, some recovery has been made. The majority of restrictions are lifted, and economies have been able to return to some degree. However, other risk factors have emerged with supply chain and inflation challenges and tensions between Russia and Ukraine.

Advantages of Hedging Against Risk

Hedging is a practice that investors engage in to ensure risk is reduced. Hedging techniques tend to use financial instruments known as derivatives, including options and futures. The reduction in risk can bring potential benefits for investors.

Tip 1: Hedging against risk is an excellent tool that can limit an investor's losses. The gain in a derivative can offset a failure in one investment. Therefore, losses may be limited, but profits will also be less significant.

Tip 2: Hedging benefits the market because it increases liquidity. Hedge positions facilitate investors to trade in various asset classes to offset risk, and liquidity helps keep the costs of trade down.

Tip 3: Successful hedging protects a trader against fluctuation in interest rates, inflation and exchange rates. Short-term actions are difficult to predict, and hedging can help protect investments from changes in daily market volatility. 

Tip 4: Hedging works best in assets with a high exposure to risk. For example, commodities or the travel sector are susceptible to substantial changes in the market. Airlines spend significant amounts on fuel, so hedging future fuel costs can protect against a potential spike in fuel prices. 

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