Will the next downturn be more severe than investors currently anticipate? One of the factors that will influence the level of decline during the next downturn will be how investors react as the market begins to dip. This reality spells doom to the market given the current metrics. Actively managed funds are bleeding funds at a record rate. They've lost over $200 billion to passive ETFs in the past year alone. The net outflow from actively managed professional funds stands at $150 billion.
The level of control the average investor has over their accounts has increased tremendously since the last decline. This might be a good thing until you factor in the reality that the average investor can be heavily emotional and so make the next downturn worse as they sell stocks en masse, thereby increasing supply against a rapidly falling demand.
Actively managed funds have professionals that are better equipped to handle a decline. Their decisions, however, may be overshadowed by the decisions of the many people who now control their accounts and who will probably seek to cash out fast. These investors now have fast and unlimited access to their accounts and can make transactions by just clicking on a button on a screen on their laptop or mobile phone.
Knowing that the average investor has less than stellar emotional control, it becomes clearer what will happen when the next decline falls upon us. With widespread panic and clueless TV pundits fanning fear, I predict that there will be massive withdrawals, thereby worsening the situation altogether as investors seek to cut their losses.
What they fail to appreciate is that such a decline may not affect people who have a long view on investing who will still make decent returns in the long term if they hold onto their stocks even as they shed value during the decline.
The Other Side of the Coin
As an intelligent investor who knows that the market will ultimately correct and you will make money in the long term, this decline will afford you an opportunity to make quick decisions and buy stock for cents on the dollar as they fall to their lowest in a decade.
Take care to make smart investment decisions. You want to buy valuable stock backed by good companies with solid fundamentals. If the company is unlikely to survive the next decade, then it probably is not a good decision investing in it.
Don't act on emotions like our friends who will lose money. It is expected that the masses will sell largely based on emotions as panic and fear begin to spread. The market will be flooded and this will definitely worsen the situation (or make it better depending on which side you are on).
These observations are not meant to raise any alarms. Actually, the stock market looks very solid, and most of the metrics will definitely hold in the near term. Nonetheless, it doesn't hurt to consider all the options available and prepare to take advantage of opportunities as they present themselves. Victory is always for the prepared.
In the meantime, you should be building up your cash reserves. A great opportunity to buy is probably coming up in a few years.