Are you bullish or bearish on stocks right now? The staggering recovery seen since the market crash in March would suggest many are in the former camp. I’m not so confident.
Then again, trying to predict where the market will be in the near term with any certainty is a fool’s errand. That’s why, despite being wary, I’m still buying stocks here and there. Here’s the strategy I’ve been using.
1. Quality first
Buying quality stocks won’t protect me from a market crash, but it should stop me from impulsively selling them if/when it happens.
What does ‘quality’ look like? For me, it’s a company that has a big market share, perhaps in a niche area. It’s one that has limited/no debt, great growth prospects, and a strong management team who are also major shareholders.
Tick enough of these boxes and you’ve probably found a decent investment, even at a fairly high price.
2. Build a position gradually
There’s no rule that says you must throw your money at a stock in one go. You may end up making a lot of money doing so, but it’s also a recipe for anxiety, particularly if you suspect there could be more volatility on the way.
Enter ‘pound-cost averaging’. It’s the private investor’s not-so-secret weapon. Forget the jargon — it simply means drip-feeding your money into stocks over a period of time.
Not going all-in also means you should still have some powder dry if another market crash happens in 2020. Hence I’m buying, but I’m not buying big.
3. Safety in numbers
There’s no magic number when it comes to how many stocks you should own, but the fewer you have, the more risk you’re taking on. This is why I make sure to diversify across 20 or so companies and ensure that no single holding is so big that it dominates my portfolio.
If buying single-company stocks feels too risky given the possibility of another market crash, then a selection of passive and/or active funds might be the best option. You’ll never generate more than the market return with the former, but you’ll never underperform either. The latter delegates decisions to a professional fund manager, thereby relieving you of some of the stress.
4. Have a hedge
Stocks generate by far the best returns over the long term. Nevertheless, the fourth part of my strategy involves having at least some exposure to assets that history shows tend to rise in value when stocks fall. Think bonds and precious metals such as gold.
Should another market crash happen, these holdings should help stem the bleeding from my portfolio, even if it does mean sacrificing gains in the long run.
5. Look to the future
No one knows exactly where markets will be in 10 or 20 years but history tells us they should be higher than where they are now. That said, some sectors are unlikely to be in rude health.
This being the case, the final part of my strategy involves ignoring the numbers and asking myself this question: “What sort of companies are likely to grow substantially going forward?” This explains why quite a bit of my capital is now tied up in stocks and funds that focus on video gaming and robotics/automation, and not in industries in gradual, but very real, decline such as oil or tobacco.
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Paul Summers has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. 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.