The recent stock market crash could present a buying opportunity for investors who can adopt a long-term approach to their portfolios. Of course, in the short run, many stock prices could experience declines should the global economic outlook deteriorate.
However, by focusing your capital on the highest-quality stocks available and diversifying across a wide range of sectors, you could obtain a favourable risk/reward ratio while stock prices are low. This could increase your chances of making a million over the coming years.
A long-term approach
Investing during, or shortly after, a stock market crash can lead to disappointing results in the short run. For example, the economic impact of coronavirus may prove to be worse than investors are currently factoring in. This may cause stock prices to experience further falls that produce paper losses for investors.
As such, it’s imperative to adopt a long-term approach when investing during a period where stock market volatility is high. The track record of equities shows they experience periods of decline at fairly regular intervals.
However, these periods have always been followed by strong recoveries that lead to the stock market producing new record highs. As such, buying stocks today while they offer wide margins of safety could enable you to benefit from the long-term recovery potential on offer.
A focus on quality after a market crash
As with every economic downturn, some companies won’t survive. They may, for example, have experienced a decline in sales that means they’re unable to pay their fixed costs. Or they may have taken on too much debt during the decade-long economic boom and are unable to service it.
Therefore, it’s worth assessing the financial strength of a business following a market crash before purchasing a slice of it. This may include focusing on its debt levels, cash flow strength, and its interest coverage ratio to ascertain the likelihood of surviving a period of lower sales growth. It may also be worth checking the performance of a company in prior economic downturns. This would help you assess its defensive characteristics during periods when its sales have come under pressure.
Diversifying across multiple sectors
As well as buying high-quality companies for the long term, diversifying across a variety of sectors may be a sound move in a market crash. Some sectors, such as travel & leisure, may struggle to emerge intact from the current crisis. They may face a prolonged period of weaker demand that reduces their return prospects.
As such, having exposure to a range of sectors could reduce your overall risk. It may well improve your return prospects over the long run. This could enable you to fully access the stock market’s long-term recovery potential. And that would boost your chances of generating a seven-figure portfolio in the coming years.
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.