Let’s face it: It was an ugly week for the market.
On Monday, the S&P 500 fell into bear market territory for the first time since March 2020. With a nearly 4% drop, 495 out of 500 stocks ended the day lower, leaving only five closing in the green. And then the S&P 500’s 0.4% dip on Thursday marked its fifth-straight day of losses. I should also add that the top nine companies of the S&P 500 have lost more than $1 trillion in value since last weekend. All told, the S&P 500, Dow and NASDAQ sank more than 4% this week.
Now, as we discussed on Thursday and Friday, the turmoil in the market this week stemmed from fears surrounding inflation and key interest rate increases from the Federal Reserve. When we see such indiscriminate selling, it’s important to step back and take stock of your portfolio. So, in today’s Market360 article, I’d like to share eight steps to take to safeguard your portfolio.
Step #1: Don’t Panic
I know it sounds like an oversimplification, but panic is a powerful, emotional force that will get you in trouble if you let it take over. Panic makes you think that you have to take action – any action – immediately. Panic will cause you to sell stocks prematurely and at their worst prices. I do not recommend selling on a down day because this is when bid/ask spreads are abnormally wide, which is why you’ll get stuck selling at a bad price.
The best thing to do when the market starts to sell off is take a deep breath and quickly move on to step #2.
Step #2: Get to the Truth
The first question you should ask is, “What’s causing the selloff?” Are your stocks dropping on sector news, global events or economic data? Any of these things could have little to nothing to do with your individual stocks and joining the crowd by selling without the right information guarantees that you will sell at the wrong time.
Unfortunately, this is the fate of many investors because they don’t adhere to step #1 or #2. They’re in a “shoot first, ask later” mentality that causes them to lose money.
It’s not easy, but you must keep your wits about you and drill down to what’s really going on.
Step #3: Step Back to See the Real Picture
You may remember that in the ’90s, “Magic Eye” books became all the rage. Basically, at first glance, a Magic Eye image looks like nothing more than a random pattern. But by focusing on the image while stepping away from it, the viewer can see a hidden three-dimensional image emerge from the pattern.
In a nutshell, this is what happens with the market in a crisis. Many investors get so distracted by the noise that they can’t see the hidden opportunity in the details. By subscribing to the doom and gloom mentality promoted by much of the talking heads in today’s media, many of these investors are missing the real picture entirely.
Step #4: Invest Like an Insider
The trick is to increase your equity exposure to only the fundamentally strongest companies. In the next two sections, I’ll show you exactly how to determine which companies have the best fundamentals, and then I’ll highlight which kinds of companies you should avoid while the mess in the market works itself out.
Step #5: Assess Your Current Holdings
Now, the simplest way to ensure that you only hold the crème de la crème is by following my Growth Investor recommendations. These companies are growing at a rapid pace, plus they get fertilized every three months in earnings season and have been able to “bend,” rather than “break,” in the face of any market headwinds – a clear sign of market leadership.
Of course, for any stocks not explicitly recommended through Growth Investor, I strongly recommend plugging them into my Portfolio Grader tool. The grades allow you to immediately check the fundamental strength of your positions and if they have what it takes to survive a downturn and what it takes to come back from one.
D- and F-rated stocks should always be sold immediately. These companies simply don’t have the fundamentals or buying pressure to bounce back from temporary dips. In general, these stocks will be the first to fall and the last to recover – not a position you ever want to be in.
Good stocks (rated A or B in Portfolio Grader) are like fresh tennis balls – they can’t entirely avoid market selloffs, but they bounce back quickly and with force. If you stick with only A- and B-rated stocks now, you will thank yourself later!
Finally, it’s also a good idea to check the beta of your portfolio to see if you can expect your portfolio to swing wider than the market or run in line with it. Beta is a measure of systematic risk, or the sensitivity of a stock to movements of a benchmark (usually the market). A beta of 1 means you can expect the movement of a stock to match the market. So if a stock or portfolio had a beta of 1.10, that means the asset has historically moved higher and lower than the market by 10%. In a similar way, if an asset had a beta of 0.80, then it has historically moved -20% in relation to the market – both up and down.
Knowing what your beta is and if your stocks are working outside of those norms will help you identify problem areas and focus on those stocks. From there, you’ll be ready to buy, sell or hold…
Step #6: Buy, Sell or Hold Based on Eight Fundamentals
This is the time to take your action. You’ve already assessed the situation and determined if there’s reason to believe a further downward slide will occur or not.
Have confidence in your decision and stick with it. While I’m no fan of taking action for action’s sake, if you decide that a stock should be sold or a buying opportunity has presented itself, you need to act on it.
The only way to profit in a selloff is to take a hard look at the numbers behind the stocks so you can invest in the biggest, strongest companies that will emerge from bear markets stronger than they were before. And after years of crunching the numbers, I’ve figured out the eight most important variables that help predict a company’s profit potential: sales growth, operating margin, earnings growth, earnings momentum, earnings surprises, analyst earnings revisions, cash flow, and return on equity. In my Portfolio Grader, these eight factors are equally-weighted. The Fundamental Grade accounts for 30% of the stock’s Total Grade and the Quantitative Grade, which measures institutional buying pressure, accounts for 70% of the Total Grade.
Step #7: Make 100% Certain You’re Diversified
You never want to put all your eggs in one basket. If you do this, you risk taking significant losses if you bet big on one stock and that bet doesn’t pan out. While it is impossible to make sure you have the exact same amount in every stock, you should never let a single company represent more than 10% of your portfolio. And because stocks move up and down, I encourage rebalancing your portfolio every month or two by taking “partial profits” in winners or adding to your smaller positions to bring them up to equal weight.
In Growth Investor, I take diversification a step further. I divide my stocks into three distinct risk categories: Conservative, Moderately Aggressive and Aggressive and recommend that folks follow my 60%/30%/10% rule – investing 60% in Conservative stocks, 30% in Moderately Aggressive stocks and 10% in Aggressive stocks.
Step #8: Dividends Help Smooth the Volatility
The last step is to focus on dividend payments during volatile months, rather than the daily ups and downs of your paper profits. Investing in dividend stocks is especially important right now, as dividend stocks have been an oasis in the current market environment.
If you make sure to load up on dividend-paying stocks, you’ll receive an average annual yield. To be clear, not all dividend stocks are created equal. In some cases, you may be looking at a double-digit dividend yield. But as attractive as a double-digit dividend yield may sound, I recommend you pump the brakes before investing. Chasing dividend yields alone can be downright dangerous. Stocks are not like Treasury bonds or a savings account: There’s no guarantee that you will get your money back. There’s also no guarantee that company will continue paying a dividend. If you choose poorly, you could lose your capital as the stock price falls. Or, that nice juicy dividend could be slashed.
In most cases, dividend yields are tantalizingly high for a reason (the stocks are cheap and rightly so) – and are simply not supported by the fundamental earnings power of the business.
So, before investing in a dividend stock, I encourage you to see how they’re rated in Dividend Grader. If they’re also highly rated in Portfolio Grader, that’s even better! Personally, I only recommend a dividend stock in Growth Investor if it has an A-rating in Dividend Grader and Portfolio Grader. These stocks offer a one-two punch of income and growth and tend to “zig” when the market “zags.”
The bottom line: Following these eight steps will help you make good investing decisions and help protect your portfolio.
10 Stocks to Sell
Now, with that in mind, I did find multiple “red flag” companies recently – several of which you’ve probably heard of and might already own. These are the companies that will drag you down as inflation rises, so it’s important that you get rid of these “dead weight” stocks right now.
I reveal the 10 companies that are immediate sells in my brand-new report: 10 Stocks to Sell in the New American Age. So, I encourage you to become a member of Growth Investor today so you can have full-access to this report. I’ll also send three other special reports – 5 Stocks for the New Oil Age, which details the five best energy plays, as well as 3 Income Opportunities for the New American Age and The Best Gold Play for the New American Age. I believe that the information in these reports will allow you to protect your wealth in the days to come.
P.S. The stock market will be closed next Monday, June 20, for the Juneteenth holiday. The InvestorPlace offices and customer service department will also be closed next Monday. I hope you enjoy the long weekend! I’ll be back in touch on Tuesday with your next Market360 article.