It’s always hard to know when we’ve reached the bottom of a general stock market correction. It’s much easier to identify the low point in hindsight. But the process of investing requires us to look ahead.
And the problem is made even more difficult by the way the market tends to move before events and news are well known. Stocks and the market indices tend to be leading indicators. And news flowing from companies, the economy and world events tend to lag. That’s the main reason for the old stock market saying that news follows price and not the other way around.
Following company news
It’s natural for investors to fear that stocks will fall further when the news is all doom and gloom. But during past corrections, stocks have stopped falling and turned upwards while the news flow was at its darkest. And that’s the process of stocks leading and looking ahead while news lags.
But it takes courage, conviction and an iron constitution to buy cheap stocks when prices have been plunging and the news is grim. However, it’s precisely under such conditions that it’s possible to make some of our most lucrative long-term stock purchases. So what’s the best way to solve the conundrum?
It’s easy to freeze like a rabbit caught in the headlights and end up allowing great stock opportunities to pass by. But one way of snapping out of the trance is to focus on individual companies and their stocks rather than on the entire market.
In the current sad and terrible situation, the first thing I’d do is aim to understand how the war in Ukraine and its ripples may affect the operations within each of the businesses that interest me. And I’d tune in to the news coming from each company and what the directors are saying.
There are some general risks that may affect businesses, such as the way the war is pushing up general price inflation. And the sanctions against Russia will affect trading for some companies as well. Also, for many businesses, Ukraine itself is an important market and many have operations in the region. For example, smoking products manufacturer Imperial Brands has a facility in Ukraine. And premium alcoholic drinks maker Diageo has suspended exports to Russia. So, it’s worth digging in with my research to find out as much as I can about a business, its markets and where its operations are located.
Building a watch list of stock candidates
I’m working hard on my watch list of potential candidate stocks for my portfolio. And that means digging in to analyse the strength of the economics of each business, including its opportunities and threats. On top of that, I want to see a strong balance sheet with net cash or perhaps modest debts. A company with strong finances has a better chance of riding through any temporary or permanent disruptions to its business caused by the crisis.
My assumption is the war will end at some point and the world, its economies and businesses will adjust to the new realities in Eastern Europe and globally. My view is businesses can be very adaptive. And although a positive investment outcome isn’t guaranteed, I think buying the stocks of businesses when valuations are depressed could lead to long-term gains.
The post Stock market correction: why cheap shares now could be winners later appeared first on The Motley Fool UK.
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Kevin Godbold owns shares in Imperial Brands. The Motley Fool UK has recommended Diageo and Imperial Brands. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.