When the stock market plummets, does everyone suffer? A lot of people think of any market crash in terms of doom and gloom. In reality though, stock market volatility – or a full-blown crash – can throw up some winners and losers.
What happens in a crash
To understand why that is, it is important to understand what a crash actually is.
Compare it to a cricket match. At the end of the match, there is a score. That is a matter of fact – and the score cannot be changed after the final innings, outside of exceptional circumstances.
Now, the stock market throws up lots of numbers too. Each share has a closing price for every day’s trading session – and it may have been offered at many other prices during that day’s session.
Unlike a cricket score however, that is not the end of things. An investor who owns shares is under no obligation to sell them. So a tumbling stock market may mean that a shareholding shows a paper loss. But that does not crystallise into an actual loss unless an investor sells.
Instead, they may hang onto the share in the hope of price recovery, possibly even earning dividends while they wait.
Hunting for stakes in quality businesses
Sometimes a share that has tumbled in price moves up again later. In other situations, it may never recover.
That can be due to different factors, such as how investor sentiment is towards the stock market in general. But a critical factor is usually how the business itself performs over time.
So when looking for shares to buy, whether in a buoyant stock market or a crumbling one, I always try to look for what I regard as high-quality businesses.
Buying at an attractive price
I also try to buy at what I consider as a good price for the share. One of the positive things about a stock market crash is that it can potentially offer an opportunity for an investor to profit, by buying into great companies when their shares are selling at an unusually attractive price.
Such an approach requires patience though, as it is based on a long-term timeline.
Sorting the wheat from the chaff
It is also important to focus on quality. Sometimes a stock market crash sends a share tumbling, but it turns out not to be a bargain.
One share I have been buying this year after its price crashed is Diageo (LSE: DGE). Its share price has tumbled 32% so far this year. But I still see Diageo as a quality business.
There are various reasons for that share price crash: there has been a change of the company’s management; and younger consumers are drinking less alcohol than their parents and grandparents did. Meanwhile, a weak economy in key markets is hurting demand for pricey premium spirit brands.
Still, I reckon Diageo shares may be a long-term bargain to consider. Its business model has been honed over decades and the company remains hugely profitable.
It also has a unique line-up of premium brands and also owns iconic production facilities that help set it apart from rival distillers and brewers.
