It’s been a turbulent time in the markets lately with plenty of huge names seeing giant drops in their share prices. Many now fear that a significant stock market crash is on its way.
To help soothe any fears you may have right now, I’m going to share five ways that I’m preparing myself and my portfolio for the potential rough times that lie ahead.
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What triggers a stock market crash?
There are usually a number of factors that combine to create a crash. Often, a specific trigger is just the straw that breaks the camel’s back.
Think of the global economy as a professional tightrope-walker, teetering one way and the other every single day. It’s quite rare that the economy falls off the rope entirely. But, it’s a continuous balancing act, and sometimes it’s impossible to prevent a tumble.
When the fall happens, it looks and feels awful. But it’s never too long before the economy is back on its feet and hitting that rope again. The important thing to remember is that it’s always possible to stage a recovery. Because unless the world has ended, the show must go on.
For investors, a stock market crash can be both awful and exciting. Awful because it means seeing the paper value of their investments drop, exciting because these periods can present lots of opportunities.
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How do you prepare for a stock market crash?
Personally, I always stay aware that markets could tank at any moment. I don’t think like this to live in fear. I do it to make sure I plan appropriately and don’t get caught with my trousers down. So here are five ways I’m preparing for the next potential stock market crash.
1. Ensuring my portfolio is diversified
It’s important to have a healthy amount of diversification in your investments. Of course, this might mean something different to you than it does to me.
Because I’ve got plenty of investing years ahead, I’m heavily invested in equities. So, I try and keep a good chunk in broad index funds. Then, I round out my portfolio with some investment trusts with different goals (growth, income, value investing). Finally, I add sprinkling of individual stocks, buying shares that I’m happy to support long term.
How you diversify will depend on your goals, but the time to diversify is now and not during a stock market crash. So do your research and create a plan, then stick with it.
2. Investing regularly
When the stock market is crashing, you may be tempted to hold off on investing, waiting for the bottom.
But trying to time the market is a fool’s game, and in the long run, it could hamper your chances of success. When share prices are going down, I carry on investing as normal.
This way, I’ll benefit from pound-cost averaging. Because my entry point will be lower during tough times, this will reduce my average buy-in price. Making up for the times when I’ll inevitably buy investments at higher prices.
3. Keeping some cash available
Any money I put into the market I don’t plan on using for a long time.
A stock market crash can be an excellent time to pick up investments at bargain prices. So, during times like these, I’ll see if I can siphon off some extra cash from my budget.
Even though we’re seeing high levels of inflation, I’m happy to have a bit of cash on the sideline. The goal for this money is to put it into the market if I see any great opportunities (on top of my regular investments). Because even if inflation is running at 5%, I’m confident that during a crash, I have a good chance of returning over 5% with some well-placed investments.
4. Staying mentally prepared
Keeping calm during a stock market crash always sounds easy, until you live through it. It’s a real punch to the gut checking your portfolio and seeing red losses.
Even if you don’t make any rash decisions, it can affect how you look at your finances. There’s something called the ‘wealth effect’ where you feel more financially confident with a strong portfolio, even if you don’t plan on using that money.
So, it’s vital to detach your emotions from your money. Don’t make knee-jerk decisions and try not to let paper-losses affect your mindset.
5. Making sure I understand all my investments
You should always understand what you’re investing in. But leading into a crash, it’s crucial you know what’s in your portfolio.
If you don’t understand how your investments work, it can be impossible to make sure you’re diversified.
So, take a look through your investments and make sure you understand them. The next step is to double-check that the trajectory of any funds or shares you buy lines up with your investing strategy and goals.
