In order to know what to do in a stock market crash, like selling holdings to ideally prevent further loss and then potentially buy back at lower prices, you need to know if we are in a stock market crash or not.

First, understand there are two types of stock market crashes.

Crash Type 1: Fast, Panic

We are not in the first type of crash, a Fast Panic.

The first type of crash is a panic exemplified by a short lead in, historically a little over a month or two then a very sudden, and seemingly disastrous, fear induced drop.

The Crash of 1987, and the Pandemic Crash of 2020 are great examples.

In 1987 the stock market peaked on August 25th at 2,722.42¹ after a meteoric rise. The initial 2-month descent was alarming to investors, as the market went down 476 points or 17.5%. Then on Black Monday, October 19, 1987, things got significantly worse when the floor fell out from under the market and stocks dropped -22%² by the end of the day. This is still the worst one-day crash of all time.

All told? The Crash of ’87 decline was -36.12%³.

Source: Dow Jones, Squire Asset Management

That Monday turned out to be the stock market bottom for that crash. This is highly unusual, as the worst daily drop is often followed by more days, weeks and months of going lower.

As in most cases, the 1987 stock market tested that bottom of 1738.34 on December 4, 1987, and it held higher at 1,766. The market meandered around 2,000 for the next year before it finally grabbed hold and fashioned a recovery.

Source: Dow Jones, Squire Asset Management

Flash forward to the Pandemic Crash of 2020.

It’s hard to believe the Pandemic Crash bottomed om March 23rd, 2020, at 18,591.93 just 37 days after it topped at 29,551.42. This was a massive decline and the drop of -37.09% was very similar to the Crash of 1987.

Source: Dow Jones, Squire Asset Management

The Federal Reserve and Government induced recovery was uniquely swift, taking only until November 2020. The ensuing market rally took us all the way to December 2021, where the rest of our story begins.

Source: Dow Jones, Squire Asset Management

Now let’s look at the second type of crash.

Crash Type 2: Long, Slow and Painful

Straight Answer? We’re not out of the woods yet.

Right around June 14th, 2020, several pundits and economists cheered the recent summer rally and were clamoring that the bottom of the market was in fact in!

The drop went from a high on January 4th of 36,799.65 to an intraday low on June 17, 2022, of 29,653.29 or -19.48%, which crossed our selling threshold.

Then last week Federal Reserve chair Powell said he was going to hammer inflation and maintain “a restrictive policy for some time.”⁴ The stock market has reacted harshly and quickly, going down 2,823 points or nearly 10% in 12 days.

If the Fed continues down its current path it’s hard to see markets reacting kindly in the near term, meaning going out about a year.

“While higher interest rates, slower growth, and softer labor market conditions will bring down inflation, they will also bring some pain to households and businesses,” he said in prepared remarks. “These are the unfortunate costs of reducing inflation. But a failure to restore price stability would mean far greater pain.”

-Federal Reserve Chairman Jerome Powell

Source: Dow Jones, Squire Asset Management

The bottom Line is that if the stock market goes below the previous low of 29,888.78 on the DJIA, we’re not in a correction anymore. The correction becomes a bear market and a crash. The only question then is do we go down -21% to -40% or more.

What if you sell out and the market starts to go back up, you ask? Or, how do you know when to get back in?

The answer is in the chart above which shows the 50-day (green) and 200-day (purple) trends or moving averages. The stock market is not in an official rally until the daily prices (orange) go back above the 50 and 200-day moving averages and stay above that level for 11 days in a row. Historically if these three things do not happen, the market has gone lower again, and investors have had to endure significant loss of value.

What can you do?

Understanding that the second type of crash, Long, Slow and Painful can cover parts of 1 to 4 calendar years, and that they cause severe financial and emotional damage can improve your outlook around selling out higher or your flight to safety options.

The Great Depression for example, one of the worst, started in October 1929 and lasted until July 1932, part of 4 years but covering a little over 2 1/2 years. Whether it’s going down for 2 years or 4 years and 7-25 years of recovery, that’s a lot of stress that can be significantly reduced with a more conservative portfolio.

We can’t know how far down the market will go or how long this will last. If you do not want to lose more stock value, it is ok to sell higher here if the market is headed lower. Most people don’t want 20% paper losses to turn into -30%, -40%, -50% or -90% losses. While I don’t think we will go down -90% the -30% or -40% is imminently possible if the Fed pushes us into a recession, which they have now said they are not afraid to do.

So, I highly encourage you to reach out to us. Send us your portfolio. Let us analyze the risk. Some stocks are still highly overvalued with PEs in the 30’s and even 100’s. Cutting the mutual funds back and going into more conservative assets may be wise.

Don’t just stop here with the reading. Act! It feels awful watching it all go down, and people generally sleep better when they are more conservatively positioned in a downturn.

We can help.

Let’s, at least, have a conversation.

Craig Gregozeski
President
Squire Asset Management, LLC.

LPL Compliance Approval Number: 1-05322735

Footnotes

1. Statistics from The Dow Jones Industrial Average Daily price data.
2. Statistics from The Dow Jones Industrial Average Daily price data.
3. Statistics from The Dow Jones Industrial Average Daily price data.
4. https://www.bloomberg.com/opinion/articles/2022-08-26/jackson-hole-powell-is-better-when-he-sticks-to-the-script

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results. All indices are references are unmanaged and may not be invested into directly. The Dow Jones Industrial Average is comprised of 30 stocks that are major factors in their industries and widely held by individuals and institutional investors. The economic forecasts set forth in this material may not develop as predicted and there can be no guarantee that strategies promoted will be successful. No strategy assures success or protects against loss.