What to do in a Selloff? Avoid Emotion And More

This is a relatively muted response, but it gives you the satisfaction of doing something in the face of panic. A second example, would be to sell 5% of your U.S. stocks when the Shiller PE is above 25 and the leading indicators are falling year over year and sell 10% when the Shiller PE is above 30 and the leading indicators are falling year over year. Notice how these examples fade major changes rather than follow them. In the near term, following trends makes sense, but when investing for decades, you can do the opposite of major equity price swings.

Leading Indicators Are A Great Indicator

Brokerage Account: Price Isn’t Everything

The advice given thus far pertains to your overall asset allocation. Now let’s look at your brokerage account where you can have a percentage of your net worth in liquid assets to try to earn outsized profits. Clearly, the size of this portfolio as a percentage of your assets is based off the amount of risk you’re willing to take which is important as we mentioned earlier.

Related: Where Will ETF Funds Flow in 2018? 

The first piece of advice, assuming you’re not day trading, which is an extremely risky strategy, is that price isn’t everything. Price is only one factor which changes. It is focused on because it is the most visible. However, fundamentals and value are very important as well. If a stock or a market was expensive in the past, a large selloff might not make it cheap. You can’t just buy the dip in something that was expensive because it might only be at fair market value rather than be cheap. Positive earnings reports that push a stock up might make it look overbought, but if the fundamentals improve, technical analysis is thrown out the window.

Avoid Emotion

There are so many emotions that go through an investor’s mind regardless of price action. Sometimes investors want to take more risk when they are underperforming the index or sometimes they are motivated to short a stock because they think the management team is making mistakes.

These are all examples of making emotional decisions which will hurt your performance. It’s easy to tell people not to panic after a huge selloff, but that’s not helpful. The key is to be properly insulated to declines based on your risk profile. That way you won’t need anyone to console you during a period of increased volatility. In your brokerage account, avoid acting on emotion and price alone. Value and fundamental signals are more important than trend following in the long term. Make patience an edge you have which allows you to outperform the market.

This article has been republished with permission from Value Walk.