1. Market crashes occur every few years and impact a large number of asset classes. While most people believe that market crashes mainly impact equity share markets, they have a significant direct as well as indirect impact on the general population. Market crashes that last for a period of time result in rising unemployment, recessionary environments, and bankruptcies. These events have adverse impacts on individuals as well – apart from job losses, individuals also face reduction in household wealth stemming from reduction in real estate asset prices and financial investments. Economic history has shown that minor crashes happen every 2-3 years while a major crash happens usually once a decade. Market crashes are difficult times for long term investors, and it is important for investors to keep their emotions in check to ensure that rash decisions do not lead to long term portfolio damage.

2. There is fear during the crash but once the crash is over it is looked back as an opportunity. This implies that a crash is a good time to buy shares when the market is crashing. Each time that a crash has happened, the market has come back to its previous highs. If one looks at the chart of the S&P500, perhaps the main stock index of the US markets, once can see that there have been several significant crashes but EACH TIME the index has recovered to its high in a few years. Crashes that are scary when they occur seem like a blip on the chart when one looks back.

3. When the market falls, we feel fearful; when the market rises psychology compels us to participate in the up move. Overcoming these emotions is understandably difficult. One should try and not let emotions determine their investment decisions and instead let analysis and numerical aspects determine what steps to take.

4. Psychology plays a strong role in the investment decisions even in the most sophisticated investors. When the market crashes, psychology makes investors feel that the market will crash further and feel a psychological pressure to exit from financial instruments. Conversely, when the market moves up rapidly, investors feel FOMO (Fear of Missing Out) and feel the market will keep moving higher – investors therefore feel the psychological pressure to purchase more shares. Mature investors are able to manage their emotions and do what Warren Buffett called ‘Be Greedy when others are fearful and fearful when others are greedy’. These mature investors are able to purchase financial instruments even when markets are falling and refrain from buying when the market is moving up.

5. During a big crash, the economic environment worsens. There is a good chance that your job security is under threat, your net worth has reduced and news all round is very negative. In such an environment, your risk appetite will anyways reduce and therefore it will be even harder emotionally to not sell shares, let alone buying shares. Be cognizant of this as you think of your actions during a market crash.

6. The future outlook matters more to the market rather than the present. Sometimes the market rises even when the economy looks bad. This is because there is improvement in the economy that is expected in the coming months and years. Similarly, markets may fall even when the economy looks strong. Investors should avoid linking the market with the current state of the economy. This is particularly true during market crashes as central bank and government announcements can decisively change outlook.

7. Remember that a major boom in financial markets is a bit like a crash in the upward direction. In the same way that booms end with  busts, so do busts usually sows the seeds for booms.

8. Suggestions on managing emotions and during a market crash

a. Do not look at your portfolio regularly – ‘screen scare’ compels one to act and make rash decisions. Track the performance of the companies you have invested in. Consider exiting companies whose long-term prospects have fundamentally become worse due to recent events.

b. Avoid too much consumption of news.

c. As Warren Buffett said, ‘Play dead’. One way to play dead is to avoid looking at your portfolio value regularly even during good times.

9. Do not stop SIPs. This is a good time to continue investing. To reduce risk, you can channel your SIPs into index ETFs as index ETFs are at lesser risk of permanent damage from a market crash.

 

Disclaimer: Vitspan does not provide any investment related, tax related or financial advice. The information presented is done so without considering the investment objectives, risk profile, or economic circumstances of any reader or investor. The information presented may not be suitable for all investors. Past performance is not indicative of future results. Investing involves risk including the potential loss of principal. Please consult your financial advisor prior to making investment related decisions.