In recent months, warnings from financial experts and institutions have highlighted risks of a potential stock market crash driven by various factors, including sector-specific bubbles and high valuations. In November, the European Central Bank (ECB) cautioned about a possible bubble in AI-related stocks, warning that investor expectations might not align with actual performance, leading to abrupt market corrections. Similarly, Howard Marks, a renowned investor and Co-chairman of Oaktree Capital Management who warned from the dot-com bubble before its burst, observed parallels between the current market, driven by high valuations in tech and AI sectors, and the dot-com bubble. Economist Harry Dent predicted an economic downturn due to private debt, while Jeremy Grantham emphasized the overvaluation of U.S. markets, drawing comparisons to previous market collapses. Even the Federal Reserve Governor Lisa Cook warned of heightened risks from inflated stock valuations, referring to the market's persistent "irrational exuberance.".
What to Do When the Stock Market Crashes
With these repeated warnings in the media about potential collapse of stock market, many investors may feel a sense of uncertainty and stress about their financial positions, especially since most of the time these warnings skip the part where they advise individual investors on what they should do next. In a recent interview with Bloomberg Wealth, Catherine Keating shared actionable advice on how investors can make their way through these challenging periods effectively. Keating is the Global Head of BNY Wealth and also the CEO and board member of BNY Mellon, N.A., the oldest continuously operating bank in the United States, that manages $2.1 trillion in assets and wealth. Here are 4 valuable tips Keating provided during the interview:
1. Stick to the Plan
Keating emphasizes that the most significant mistake investors commonly make is failing to stick to their investment plan when the stock market declines. She identifies the failure to maintain this discipline as the most significant error investors make, noting, "The biggest mistake that investors make is not sticking with the plan when the market goes down.” Her experience with financial markets underscores the importance of resilience during downturns. Keating notes, "What you do when the market goes down is far more important than what you do when it's rising. The worst days are followed by the best days.". She recalls how during the financial crisis in 2008, many investors withdrew funds from the stock market and shifted them into the bond market, missing out on the subsequent recovery.
2. Rebalance and Seize Opportunities
Keating advises investors to use market downturns as an opportunity to rebalance their portfolios. By reassessing asset allocations, investors can position themselves to take advantage of potential market rebounds. She mentions how this approach proved effective in March 2020 when global markets experienced a sharp decline, and BNY Mellon guided their clients to adjust their portfolios strategically. Keating notes that their confidence in a market recovery was validated much sooner than expected, with gains realized within six months rather than the 12 to 18 months that they initially projected.
3. Manage Your Emotions
Investing is not solely a numbers game; emotional management plays a pivotal role, especially during downturns. Keating points out the challenge of managing emotional reactions to market instability, stating that while financial decisions are generally perceived as mathematical, emotions heavily influence investors behavior. She pointed this out as something she learned during her money management career, that institutions perceive wealth planning and management as math rather than emotions. So this advice could also mean that individual investors who decide with emotions rather than math may be better off with their money managed through institutions and funds. "We do feel the pain of a loss more than the euphoria of a gain," she observes, reflecting how institutions prioritize minimizing the risk rather than looking for quick short-term gains.
4. Do Not Invest With Your Politics
Keating advises separating investment decisions from political affiliations. She suggests that investors should focus on the underlying economic policies rather than the political party in power, as financial markets have historically performed well under various administrations. “Elections are about policy and we advise our clients, do not invest with your politics,” Keating said. “because it's proven to be the case that markets can do very well regardless of the party that's in the White House or in the House of Representatives or the Senate” she added. Keating recommends focusing on policies that could impact capital markets, such as trade and tariffs, corporate tax rates, immigration, and policies related to companies doing mergers and acquisitions.
Keeping Up With the Market
While Keating’s advice is aimed at helping navigate through market downturns, it actually applies during any market condition. The market always has been in an uptrend in the long term. “There have been more than 21 bear markets in the S&P 500 since 1928, and they usually last less than a year, compared to the multiyear span of a typical bull market,” says Marci McGregor, head of Portfolio Strategy for the Chief Investment Office (CIO), Merrill and Bank of America Private Bank. Investing in index funds such as the Vanguard S&P 500 ETF (VOO), which tracks the S&P 500, could be a good way to invest in something that is backed by almost 100 years of data that shows continuous growth over the long term.