Strategies For Dealing With A Possible Market Meltdown

Includes: BAC, JNJ, KO, MCD
by: David Crosetti


With the stock market at all-time highs, it would seem that many investors are becoming very concerned about what they should do next, with their stock portfolios. Reading commentary over the last few weeks makes me think that for many investors, there is a concern over "safety" and preserving capital in light of a potential market correction looming on the horizon.

As a Dividend Growth investor, making new investments with fresh cash is not always a concern of mine as most of the time, I tend to be fully invested. At the same time, as I receive dividends from my holdings I can either reinvest those dividends or choose to collect them in the form of cash for any new purchases.

As a long-term investor- that is, having long-term holdings in my portfolio- I tend to be focused on my cost basis and the current price point and see the growth in value as nothing more than "unrealized" gain. That gives me a level of comfort that perhaps someone with positions that are more recent does not have.

What I Know:

Give you an example. My ownership of Coca-Cola (NYSE:KO) has a cost basis that is under $3 a share. That cost basis factors in reinvested dividends, stock splits, and relatively recent purchases. The current valuation metrics for Coca-Cola would lead me to suggest that additional purchases of KO stock is not something on my radar right now.

In fact, I stopped reinvesting dividends with KO at the beginning of this year and have used that money to purchase other companies that were of interest to me with those funds.

Going back to the notion of DG investing, there is really no compelling reason to be a seller unless the company in question has a fundamental flaw develop in its business model, stops growing its dividend, or becomes exceptionally unbalanced as a percentage of my portfolio holdings.

Now other investment strategies have different metrics. That's fine. But as I have said before, your portfolio management should be consistent with your individual investment strategy. If you are looking for growth, then taking profits would make sense, for example.

But, there are options for every investment style and strategy and these seem to fall into the following categories. Let's explore some options.

I am not saying that any of these options is something that you should do and I am not saying they are things that you shouldn't do. What I am saying is that your choices/options pretty much are up to you.

What You Should Know:

1. Rebalance your portfolio:

I like to have each of my holdings within a portfolio have an equal weighting in regard to the total portfolio value. If I hold 30 positions, then I like to keep my holdings in a 3-4% relative position for each. This means that once or twice a year, I will trim my holdings, taking profits from one and applying those profits to another holding or taking that money and parking it in cash until another opportunity presents itself.

2. Taking profits off the table:

Let's say you purchased Johnson & Johnson (NYSE:JNJ) back in 2011 at a price in the low $60 range. The stock was paying a dividend of $2.28 a share and a $60 purchase would have had a yield around 3.5%. The company raised the dividend in 2012 to $2.44 a share and recently announced another increase to $2.64 a share for 2013. Let's say that you purchased 100 shares for $6000. You would have received dividends totaling $472 and the stock is currently selling for $85 a share. So you have a $2500 gain in price and the additional $472 in dividends for a total unrealized gain of $2972.

Selling enough shares to recapture your "profit" and leaving the original $6000 investment in play might be an option you choose to pursue. The next dividend payment is scheduled for June and your 100 shares remaining would earn you $264 dollars over the next 12 months.

You are still long JNJ with a cost basis of $60 a share and reinvesting those dividends over the next 12 months is not going to raise that cost basis a whole lot.

3. Taking your original investment off the table:

This strategy allows you to continue to hold your position in a given stock, but now you are working with "house money" and not your original stake.

Using, say, McDonald's (NYSE:MCD) as an example. Let's assume that you purchased MCD back in 2010 at a price in the low 70's. Today the stock is priced at $100 a share. A 100 share purchase would have appreciated right at $3000.

You could determine that MCD is overvalued and that while you still want to continue owning it, you do not want to own 100 shares. So, you elect to sell enough shares to recapture your initial investment and then you will be left with a position in MCD that represents only the gain. Instead of holding 100 shares, you would sell 70 shares and reduce your position to 30 shares, valued at $3000. The initial stake of $7000 is now sitting on the sidelines waiting for a redeployment somewhere else.

4. Sell everything and wait until market conditions improve:

While this is not a strategy that I would employ, it has a certain appeal to some. As you look at your portfolio growth over the last 12 months, 24 months, 36 months and you see that you have had a very nice run and your portfolio is worth more than you ever imagined, there might be a feeling that "I need to get out while the getting is good."

But what happens if the market continues to move upward? Will you be ok with that? Would you have second thoughts 6 months from now? If you're right and the market corrects, will you go back in or will the fear that drove you out keep you from getting back in?

Market timing is at best difficult if not impossible. An all-or-nothing approach doesn't make a lot of sense to me, but then again, I'm not you.

5. Do absolutely nothing:

Like #4 this one is going to be difficult for some people. Doing nothing and having the market drop 10-20% might leave you saying: "I should have sold." But again, let's take a balanced look at things.

If your cost basis for your portfolio is low, what you are losing in a market meltdown is those "unrealized gains." You might very well still be in a position that has an overall gain for your portfolio and even one that has a CAGR that would be the envy of other investors.


We have to guard against two emotions. Fear is one. Greed is another. Hey, I'll be the first to admit that I struggle with those emotions all the time. It's human nature. But as a DG investor, my focus is still on income. Income that grows year over year with regular and predictable increases.

Might one of my holdings end up being sold because it no longer meets my specific criteria? Sure. I've owned Bank of America (NYSE:BAC) when it was a DG stock and sold it when it cut the dividend. At the same time, I've repurchased as I saw that it was a value at $7 a share. But I didn't purchase it for the dividend, I purchased it for capital gain purposes.

Every investor is different. How you go about managing your portfolio will directly affect your results. My only take here is that each of us will make "mistakes" and each of us will have "successes."

However you decide to manage your investments is really up to you. There is no right way or wrong way. In the end, it is a matter of personal conviction and sometimes you just have to step up to the plate and take a swing.

Disclosure: I am long KO, BAC, JNJ, MCD. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.