A falling market usually indicates one of two things - a long due correction, from which the market may recover fairly quickly or a prolonged downturn caused by some economic turmoil, where stock value and investors' sentiment, both take severe hammering. Most people stay away from a falling market, regardless of the type of fall, yet there are those, who strive to profit from such falls. These people can be categorized into two types - traders, who bet on falling markets, sell short and earn good returns and investors, who hunt among the fallen stocks to pick best deals at discount prices. To apply any of these strategies, one needs to do some amount of market study. For example, to sell a stock short, one needs to know when it is overvalued (and about to fall). Similarly, to pick good stocks at discounts, one needs to know when they are undervalued. The key to both these strategies is knowing the correct value of the stock.
Valuation is key
At any given point in time, the present value of a stock incorporates the assumption of its growth or decline in the near future. Knowing what price a stock deserves can help one collect bargains in a falling market. This necessiates some amount of groundwork in the form of creating a watchlist of stocks that have good potential. Ideally this watchlist must contain an entire spectrum of stocks, such as growth, value, speculative, bluechip etc. A strategy such as this allows one to monitor price movements, investors' sentiment and stock values at a glance. Assuming that one is armed with such a watchlist, taking the following actions, when the market falls, will set the course for guaranteed big returns.
1. sell speculative stocks - in a downturn a portfolio suffers the most from losses in speculative stocks. Selling such stocks at the first stop loss level is highly recommended. Capital released from such dilution can then be deployed in stocks with better prospects.
2. buy stronger stocks - stronger stocks are those that bounce back quickly after a fall. These stocks usually trade in heavy volumes and may have large/medium capitalisation. Seek to invest in such stocks around support levels lower than their previous highs.
3. book profit - during downturns stocks may remain volatile for several weeks, thus presenting good opportunities to book profit during upswings. Buy low, sell high and book profit as often as possible.
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