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3 steps I’d take if the stock market continues to crash

Predicting when a stock market crash will occur is exceptionally difficult. As is estimating how long it will last – especially when news regarding coronavirus could have a significant impact on investor sentiment and company earnings.

As such, the recent market crash may continue over the medium term. If it does, buying undervalued stocks with defensive characteristics and income appeal could be a sound move that boosts your financial prospects over the long run.

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Undervalued stocks

Buying stocks in any market crash is something that is unlikely to come naturally to the vast majority of investors. For most people, their instinct is to sell rather than buy when stock prices are falling. This is understandable, since nobody wants to record losses in their portfolios.

However, history shows that falling stock prices have represented excellent buying opportunities in the past. They provide investors with the chance to buy high-quality companies at discounts to their intrinsic values. The stock market has always recovered from even its most severe of bear markets to post new record highs. As such, buying stocks while their prices are low could be a sound means of increasing your chances of generating high returns in the long run.

Defensive opportunities

Clearly, the global economic outlook is highly uncertain at the present time. Many industries are experiencing difficult trading conditions that could last over the medium term.

Therefore, buying defensive companies in a market crash could be a sound move. They may not completely avoid the impact of a recession, but their financial performance could be less impacted than some of their more cyclical index peers. They may be able to generate earnings and dividend growth that leads to strong performances from their stock prices due to high investor demand.

Although cyclical stocks may be cheaper and have greater long-term recovery potential, defensive stocks could offer relatively attractive risk/reward ratios in a market crash.

Dividend stocks

Buying dividend stocks during a market crash could be a worthwhile move. Low stock prices mean that dividend yields are generally higher in a market downturn, which could enhance your total returns. In fact, a large proportion of the stock market’s past total returns have been derived from the reinvestment of dividends. Therefore, the appeal of dividend stocks is not limited to income investors. They could be attractive for growth investors.

Moreover, dividend stocks could become increasingly attractive to a wider range of individuals in the coming years. Low interest rates could make other income-producing assets less appealing to income investors. They may, therefore, allocate a larger proportion of their portfolios to dividend stocks to generate a generous income.

As such, buying dividend stocks during a market crash could lead to strong capital returns, as well as impressive income prospects relative to other assets over the long run.

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Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.