Mr. Market is quite depressive due to the coronavirus and oil price war. Here we focus on the facts and adequate behavior to take advantage of market corrections.
I’d like to share that much of my knowledge comes from reading. I discovered some great books that can help you to become a better investor and to improve your mindset. Please check my overview page where I have summarized these for you: https://www.financeandinvestingfacts.com/best-investing-books/
Market corrections and recessions are normal
Let’s start with some reflection on the current situation. Recessions and market corrections are a very normal part of the business cycle as described in the first blog of this website.
The current market situation (i.e. coronavirus and oil price war) can impact the supply chain of businesses. Luckily, businesses and people are very resilient. Over time most of the businesses with a strong financial position and adequate earning power will survive.
Benjamin Graham’s wisdom can guide us
Mr. Market’s unpredictable behavior is perfectly visible these days. Large fluctuations in the mood of Mr. Market means that businesses fluctuate highly in prices. Objectivity and keeping ones nerve is crucial instead of letting your own behavior be influenced by the stock market.
This is hard, especially when the value of your stock portfolio decreases. This is normal human behavior due to the fact that most people put more weight on a loss than a gain.
As Graham says so brilliantly in the book the Intelligent Investor: Investors should expect their stock portfolio to fluctuate over time and shouldn’t be concerned by sizable declines or become existed by large increases.
I’m currently reading the 1951 (third) edition of Security Analysis by Benjamin Graham and David Dodd and I’d like to share two phrases that might be of help to you.
“An investment operation in one which, upon thorough analysis, promises safety of principal and a satisfactory return.”
Benjamin Graham
Market tumults shouldn’t affect the serious investors decision to buy a good business.
On dollar averaging Graham says that investors should be wary to put more money in stocks at higher prices and you should never let a lower price level scare you away from buying. As always, the price must be lower than the value justified by the facts when one invests.
The coronavirus correlation to economic outlook
“The impact on the rest of the world through business travel and tourism, supply chains, commodities and lower confidence is growing.”
OECD
Some sectors are extra sensitive. Especially the travel and tourism industry (e.g. airlines and cruise lines).
“Severe, short-lived downturn in China, where GDP growth falls below 5% in 2020 after 6.1% in 2019, but recovering to 6.4% in 2021.”
OECD
This was before the news about the oil price war with plummeting oil prices. The OECD expects that the current situation will have an influence on the economy and will to slower growth. But they also expect a recovery in 2021 for China.
How to deal with the news
The news can be very misleading by negatively influencing sound long term investment decisions with short term negativity. Do not let the daily news be your guide for long term investing decisions. History has proven that selling simply due to market fear is a poor strategy.
Lower prices should increase the attractiveness of your stocks. Remember that the news is also there to attract viewers. It is best to see this as entertainment and to look at the facts.
The Volatility or VIX Indicator
Something interesting to show is the volatility index which visualizes increased stress in the market. This is an often used indicator for panic. Be ready for some strong market movements if the VIX is high.
Warren Buffett is a net buyer
Warren Buffett often says in interviews that he is a net buyer of stocks since age 11 (almost 80 years now). Recessions can lead to Fisher companies for Graham prices according to Warren. Philip Fisher was famous for selecting the best companies and holding these for many years. Benjamin Graham is known for finding companies that trade below their asset value.
Buffett has recently added some money to Delta Airlines. Please note that Buffett bought a relative small amount of Delta Airlines. Warren Buffett is not required to release which companies he’s buying except when special regulation applies (e.g. 10% ownership). It is likely though that Buffett will increase his stakes and maybe take a new position if stocks decline further. We will know this when the next quarterly 13F holding form is filled.
Update (May 2020): Warren Buffett sold his airlines. Please check the official SEC page for the 13F document with the Berkshire holdings.
Perfect time to test your behavior
These times are ideal to see whether your suited to behave as a long term investor. Controlling your own behavior is what matters most for success in investing.
You can adjust your DCF by lowering growth and/or free cash flow if needed to incorporate possible supply chain issues for example. Following your own assumptions and ignoring the market noise is the best way to have long term success.
Keep an eye on the best businesses
The best business can reinvest (retain) its earnings and reinvest those at high rates of return. This produces a high free cash flow. These are the best companies to own for most investors. Especially during market corrections.
The figure below shows that most businesses of the S&P 500 are still showing positive returns over a one year period. Apple is up 67.55% and Microsoft 46.36%. Other free cash flow machines like Coca Cola and Google are also still showing investment gains.
CEO’s adjust their predictions
The long term minded investor can find great buying opportunities if the market decides to sell off the most stable companies. Currently, this is simply not yet the case.
Large free cash flow generating businesses like the Chinese company Alibaba are giving warnings in their earnings calls:
However, like all the other companies in China, we are confronted with a black swan event soon after the start of 2020 the novel coronavirus. The outbreak is having significant impact on China’s economy and may potentially affect the global economy. It will present near-term challenges to the development of Alibaba’s business across the board, but at the same time, we will see opportunities created by the forces of change.
Daniel Zhang CEO Alibaba 2020
Stay rational and focus on the facts
Don’t take hasty decisions when facing market corrections. Although no predictor, the past showed that it can take some time before the market bottoms. So, focusing on the facts of businesses and buying them when they appear cheap from a DCF point of view is the smart thing to do. Ensure yourself of ample cash and don’t take leverage or margin to buy more than you can afford.
Focus on the long term and remember that the biggest risk of investing is likely the behavior of the investor him/herself. Try to think like Warren Buffett when investing in stocks by focusing on the business and using the market as your servant.
Furthermore, try to enjoy falling prices as it is a great way to add stocks or ETFs to your portfolio for lower prices (see it as a sales event). Be greedy when others are fearful!