NOTE: I originally published this to my premium subscribers on July 8 - obviously prematurely since the market continued moving higher over the past 2 months. But I continue to believe that judiciously "raising cash" (more explanation in the article/video below) is a good practice at points where the market appears at an extreme, and vulnerable to a selloff.
Our stock market has felt like one of those much-parodied scenes in the movies where one character says “It’s quiet out there.”
And the sidekick-buddy says “Yeah, too quiet.”
And then something like this morning happens. If you haven’t checked your computer yet, the S&P 500 futures are down about 1.5% (roughly 60 points), and likewise the same percentage drop of roughly 200 points.
Watch the video or keep reading below for more!
The reason for the sudden bit of overnight panic is Wall Street’s twin (related) fears - the Delta variant of the COVID virus, and the durability of the global economic rebound.
But as I’ve noted before, traders (and since I used to be one - financial news writers) tend to assign a reason why a stock or stock market goes up or down. Often the real reason is that the price has gotten too high and folks needed an excuse to sell.
So I’ll just lay this out there…
In my opinion, this isn’t a bad time to take some profits and raise cash levels.
I don't mean this as specific advice. I’m not making any moves yet in the goodBUYs portfolio.
Nor does this mean we’re turning into market timers, or that we should sell everything and run for the hills.
It’s quite possible that - in today’s session or in the next few days - lots of folks will take advantage of this knee-jerk selloff and buoy the market.
If you only own a few stocks in small amounts (relative to your overall net worth), or you’re just doing this for fun, none of this will matter all that much.
But the question I always ask myself is this…
If the overall stock market fell, say, 15%, am I mentally ready for it and how would that impact my portfolio, current living standards and future plans?
Because...if the market falls that much, chances are numerous stocks in my personal portfolio are going to fall by double that amount or more sometimes.
For me, when it comes to selling and raising cash, I give priority to two kinds of stocks…
- My newer positions (since I’m less likely to have a significant profit in the position already).
- Older positions that may only be marginally negative but have been in the portfolio for a reasonable length of time already.
There are 3 main ideas at work with the idea of “raising cash”...
- I’m reducing the risk to my portfolio’s principal - the money I originally brought to the table and perhaps added more cash to an account in prior years.
That’s my “seed corn,” my investment capital.
So it’s one thing to have a big gain in a stock and lose some of that gain in a correction or bear market. It’s something else when you have an out-and-out loss in a position, and that loss only gets bigger and bigger in a bad market.
If there’s a “prime directive” in investing and speculating, it’s that I want to preserve my original starting capital at all costs.
In my opinion, this is especially important if I’m a new investor. I may have only a few, or no real gains in my portfolio yet because I haven’t been trading, investing, speculating for very long. I’m still learning.
So if I started with $10,000 and now I only have $9,000 or $8,000 - I’m losing investment capital.
It’s like a deep wound to my arm or leg, I need to put a tourniquet around it and stop the bleeding or I’ll die.
Or my portfolio will die.
If you think I’m kidding, remember this, if I lose 10% of my portfolio’s starting capital - it takes an 11% gain to get back to break even. That’s do-able if one is careful and patient.
It gets harder from there. If I lose 20% of my investment capital, it takes a 25% gain to get to break even. If you lose 35% of my starting capital, it takes a 50% gain...just to get back to breakeven.
That’s why corrections and bear markets are so tough to take, and why so many people throw up their hands and say “I’m never going to do the stock market again.”
I don’t want you to be that person.
2. By raising some cash, I now have funds I can put to work at some point down the road if and when stock prices are much lower.
That’s another reason why corrections and bear markets are so tough.
If you don’t raise cash, it means that in order to take advantage of those temporarily low stock prices, you need to sell something you already own (and probably sell it for a loss).
Or you have to add cash from your bank account. Psychologically, it’s very hard to make yourself do either after the stock market has tanked in a truly big way.
3. When I have a strong cash position, I have a lot more confidence to buy during and after a correction or bear market, and take advantage of those low stock prices.
If you’ve only been in the stock market for a short time, or if you’ve never really seen a sharp correction or bear market before, the psychology of it is nothing to trifle with.
Your friends will talk about how their 401ks became “201ks”...i.e. cut in half in value. No one you know will want to buy a stock. You’ll turn on CNBC and all you’ll hear are people talking about how terrible everything is, and they wouldn’t touch the stock market until there’s more “certainty” about the future.
A good example was last year at what turned out to be the bottom of the stock market’s panic.
I wrote an article called “I Can’t Believe Facebook is This Cheap.” The shares are up 120% since then.
Or in December 2018 when there was a big market correction at the time.
I was interviewed by Cheddar Finance. They wanted to talk about Apple...the “rotten Apple” as it was referred to on their onscreen graphics, because the stock had fallen very very sharply and much of Wall Street was bearish on the stock.
I said people should buy it. It had been driven down so far, and was such a great value relative to the profits the company was taking in...it wasn’t just a good buy, it was a great buy.
4. Having cash in the midst of a big downturn gives you that luxury, that confidence, to take chances when everyone else is too afraid and waiting for “certainty.”
If there’s anything I know, it’s that “certainty” is never apparent in the stock market until prices are much much higher.
The way I view these things is that if I’m right, I’m preserving capital and perhaps avoiding bigger potential losses in my portfolio.
And if I’m wrong and the market continues onward and upward?
Well, we’ve already had a really good year.
We still have our positions in the Try Me Out portfolio. I’m confident that - using my fusion method of fundamental and technical analysis - I can sooner or later find plenty more individual stocks “about to leave the train station” and hop aboard.
Best of goodBUYs!