Since reaching its 2012 peak of 1,422 on April 2, the S&P 500 Index has been in the throes of a correction for more than two months. As is customary for your garden-variety market correction, volatility has been elevated, overnight gaps have multiplied and the ranks of market bulls have dwindled.
While the neophyte investor may be shaken by the recent tumble, the grizzled investment veteran knows that this is just one more in a long line of corrections that have punctuated every bull market since the dawn of trading. Each downturn eventually runs its course, giving way to a new market advance.
The key is to avoid being chopped up during the correction so you have sufficient financial and emotional capital to employ when the next bull leg begins.
Here are 4 tips for surviving, and perhaps even thriving, during market corrections:
Park Yourself on the Sidelines in Cash
Market train wrecks are always better witnessed as a spectator than suffered through as a participant. Once better market conditions arise, you’ll have your capital ready to redeploy and won’t be emotionally compromised the way many of your fellow traders who lost money during the correction would be.
Reduce the Size of Your Bets
If you insist on trying your hand at taming a volatile market, at least cut down on your exposure. So if you normally risk $400 per trade, start risking $200 per trade. By risking smaller amounts of money, you will avoid incurring large losses when conditions are most difficult.
Be Extremely Selective
Strong bull markets have a tendency to bail out even the sloppiest traders. Market corrections, on the other hand, are merciless. Trading mediocre setups and having poor entry points will be punished aggressively. If you’re inclined to participate during downturns, be sure to trade only the best of setups.
When there’s elevated volatility in both directions, it’s important to take profits sooner rather than later. So don’t be afraid to take partial profits if you get a quick move in your favor — because there’s a good chance it will be gone tomorrow.