When Driving into a Strong Headwind
In early April 2018, the stock market had one of the most volatile periods in the last five years.
While the market sentiment has turned jittery after Trump announced the tariff for steel and aluminum, it went panicked on 4th April 2018 when China announced that it would levy 25% tariff on $50 billion worth of US imports. This sent the Dow Jones future plunging to 500 over points in response. In Malaysia, our well-supported FBMKLCI plummeted 35 points or 1.9%, with losers outweighing winners by close to 10 times. That day was like bloodbath everywhere and many of the small cap stocks have sunk to more than 40% in a few days!
However, when a phenomenon reaches its extreme, it reverses its course. The second day, the Dow Jones Index (DJI) went up to 231 points instead of falling 500 over points. Likewise, many small and mid-cap companies’ share prices gapped at the opening and closed with a 5-10% increase on the same day. By now, you would have heard news that there is a high possibility of negotiation between China and the US. At the time of writing, the market rebound strongly once again, with the winners outweighing losers by more than four times. The sad news is, many retail investors had panic sold at the lowest on 4th April.
So, if there is something similar happening in the future, what will we do differently? While it is easy to say ‘avoid panic selling’ than done, there are ways to prevent it. Here are three ways to help you avoid panic selling:
1) Split your capital
The reason you panic is that you have mixed up your capital with trading and investing. The difference is that trading is for short term, where a transaction could vary from days to months, whereas investing is for long term, which means you buy and retain as long as the business prospects remain bright.
Once you have divided your capital clearly, you would want to set your ‘cut loss point’ for your trading capital. For investing fund, you treat it as buying a property. You do not sell a property when the price goes down, right? Instead, you want to buy more when the price is attractive. You need to have a deep understanding in order to invest with a peace of mind. This is where valuation comes into play.
2) Know your business valuation
If a business can make handsome profits to its shareholders consistently, this business has value. One common method to measure a company’s value is the PE ratio. For example, technology companies can have higher PE ratio as it’s perceived to have high growth potential. In the recent sell off, some technology companies’ PE ratio have fallen from around 20 to below 15, such as KESM and JHM.
While everybody is afraid of falling share prices, lower price means more attractive valuation, offering investors lower risks with higher returns. Knowing your company well would give you the courage to buy instead of joining the crowd to sell. The outcome of two different behaviors is the opposite.
Even so, people would still sell if they thought the world crisis is happening. In this case, it would be helpful to have some idea of the macro condition.
3) Look at the macro
I refer the macro as the global stock market performance, in particularly the Dow Jones Index (DJI), S&P and Nasdaq Indexes. For example, the DJI has formed a triple bottom (refer chart 1) and is still being supported by the MA200 line. This implies that the index is still bullish in the long term and the market risk is relatively low.
To summarise, while many retail investors have sold their shares at the wrong price lately, it is important to learn lessons and move on. If you focus on businesses with the right valuation and bright prospects, you would have lower risks and high returns investment. Finally, let me end with a quote from Warren Buffett, “Look at market fluctuations as your friend rather than your enemy; profit from folly rather than participate it.”
Binyuen is the founder of BY Enrich Resources and the author of ‘Life beyond the Comfort Zone’ and ‘Profit from Share Investment’. His books are available in major bookstores in Malaysia, Singapore or online http://www.teybinyuen.com/profitfromshareinvestment