Weathering a Panic

When you are caught in a market panic, the bottom-line reality question is whether capitalism in the United States and other major Western nations will continue to function after the panic ends. If the answer is yes, then there is no reason to sell at foolish levels.

In fact, the only rational thing to do is take courage and make buys. Being gutsy enough to act on our contrarian test - refusing to sell good stocks cheap because Wall Street and Main Street have lost faith for a few days - ensures that your earlier selling at better levels, or not at all, will prove appropriate.

It will be emotionally difficult to buy in a panic. those who can do so are demonstrably rational and therefore also calm enough to sell with discipline as the prior highs approached.

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When appropriate selling has left an investor with only a few, high-quality stocks, he can and should hold onto those gems and play through the difficult experience of a panic or crash. He will be holding only a relatively small portfolio, so his level of pain will be no worse than moderate.

His cash holdings will give emotional comfort and provide the resources for acquiring stocks advantageously when prices get really low and buying feels scary.

A comforting perspective for those less than 50% committed to stocks is that each decline means their cash is gaining stock-buying power faster than their remaining holdings are losing cash value! Think about that.

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Once the panic subsides, there is a lift in the market. But its effect is significantly different across various kinds of stocks. For some issues, there is a sharp snap=back rally; for others, very little improvement.

Just as it is not advisable to sell directly into the panic, it is prudent to reassess positions after the selling frenzy has subsided and an initial bounce in prices has begun.

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Decide in real time, what to sell and what to hold.

Selling should not be urgent because pre-bear phase tactics will have raised a lot of cash, so there is no need to sell to raise cash for margin calls or for new buying.

But because the goal is always to maximize return on capital and to take advantage of the time value of money, look closely at what to hold and what to sell now that the panic's dust has cleared.

One must look forward at future prospects rather than backward at now-irrelevant old (higher) prices.

Some investors may see a contradiction in the advice to hold the remaining few gems through the worst psychological heat, because earlier they were counseled that avoid losses is the first priority and the best reason for selling.

But taking a limited short-term dose of paper losses in a crash - by holding a few items of real quality - is a lesser risk than selling out during the fury and hoping to have the courage and good timing to get back in at lower prices shortly afterward.

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Ref: It's when you sell that counts, by Donald Cassidy