A stock market crash is actually the best bit

A stock market crash costs Australian retirees far more than money – Marcus Padley breaks down why market timing beats every other defensive strategy.

Right. The worst bit about a stock market crash is not that it loses you money, but that it loses you time. It took 11 years for the drop in the global financial crisis to be recovered. It was a 54% drop in the ASX 200. And that is the real cost to Australian retirees – the fact that you lose time. Because if you were to say that the market on average goes up 5.77% per annum plus dividends – about nine and a half to 10% per annum – you’ve lost 11 years of that by not reacting to the GFC. These events are very significant for Australian retirees.

So how do you protect against them? Well, I’ve got a list – the traditional ways to protect against the possibility of a crash. You could probably list them yourself. One of them is to build a cash buffer. Hold one to three years of expenses in cash and that will mean you can avoid selling shares during a crash. In other words, you can hold on because it’ll be all right in the end, won’t it?

Buy defensive stocks. These are stocks that will outperform in a falling market. Let me just tell you something about outperforming a falling market – it just means you lose less money. Focus on companies with strong balance sheets, low debt, consistent cash flow. If you do that before the crash happens, you’re going to miss out on all the growth companies. But that’s okay – you go right ahead and bury your head in boring companies with strong balance sheets that aren’t growing.

Reduce speculative exposure. Those growth stocks just aren’t worth investing in, are they? Diversification – whose quote is it? Diversification is for those who don’t know what they’re doing. Have a plan. How many times are people going to advise investors to have a plan? It’s not going to do you any good when the market falls over.

Anyway, you get the idea. If you are constantly fearful about some sort of crash or correction in the market, the thing to do about it is – before it happens – buy all the boring stocks, take no risk, dump all your speculative stuff, avoid all the growth stocks. If you are that concerned about a market crash, what you should really do is get out of the stock market and stop watching videos like this that purport to see you through a crash. Because if you’re that scared, you just need to avoid them completely.

The only defensive move that actually works

So let me give you another strategy – what we do about it and what you can do about it. The only option in a market fall is to go to cash. You don’t go to defensive stocks. You don’t choose between growth stocks or income stocks. Cash is the only defensive asset class. You don’t need to be too clever. You certainly don’t buy defensive stocks.

How do you know when to do that? Well, the way to handle it is to be very vigilant. We have this principle of waking up every morning and making decisions. The problem that some of you will have is that you wake up in the morning and hit the golf course and don’t do what we do, which is constantly watch the stock market – sometimes, when it gets volatile, at four or five in the morning, we’re in the office trying to decide what to do.

The other thing you have to do is be decisive. One of our principles is about making decisions despite uncertainty. You’re never going to know whether what you decide is the right decision or not except in hindsight. So you have to accept that there is a risk in whatever you do in the stock market, and everything you do has to be on a balance of probabilities.

How do you decide the probability? We’ve got a team of people who will simply say, “What do you think is the percentage chances of the market tipping over rather than going up?” And we will come out as a team with 60%, 70%, 50% – and if we get a consensus on that, we make a decision and do something about it.

React, don’t predict

So your process is to be constantly vigilant, not predict anything. You wait. We have this principle: react, don’t predict. We’ve worked out the best thing you can possibly do is to react to things that have already happened and work out how the balance of probabilities has changed for the next move in the market, or a theme, or a stock, or an industry.

The only way you can do this, of course, is with vigilance – or you can follow the Marcus Today narrative every day. We write about it every day. We’ve got our Strategy Portfolio which times the market using Australian ETFs, and we are making those decisions at the top and bottom of the market.

We successfully cashed out on February 24th 2020 – that’s when the COVID collapse happened, down 34% in 35 days. And we bought back on March 24th when the market started to bounce. We also got out of the market in mid-2023 when interest rates were raised rapidly, and then got back in November 2023 when the Fed effectively told the market in their FOMC statement that inflation had peaked and that interest rates could start to come down again. The market took off. We also sold out in October last year and bought back after the peace deal in the Middle East.

Why crashes are actually the best bit

And in fact the thing you fear most – a stock market crash – is in our view the best thing that could possibly happen to the market. Because these things don’t happen instantaneously. The signs are always there. You have time. And if you’re vigilant enough, you want the market to crash – because if you’re sitting in cash, the best bits of the market are when the market falls over and then comes back, where you can make accelerated gains out of highly depressed, fearful prices. But in order to take advantage of them, you had to spot the top.

That’s what we do. And spotting the bottom is the same way. There’s an anatomy of a top, an anatomy of a bottom. It’s different every time because it depends on what the stock market’s obsessing over. We are constantly assessing what the market is obsessing about and waiting for changes in that to pick the tops and the bottoms. There are also technical signals that tell you the tops and the bottoms. And on a balance of probabilities, you get to a day where you say, “I think we’ve hit the bottom.” And you get invested again.

And I’m sure if things carry on as they are, we’re going to see another top and another bottom. It seems to be driven these days by AI research, momentum trading, huge hedge funds taking thematic bets – not just in the markets, but in themes in the stock market. It’s funnelling money through exchange-traded funds into one theme. It gets overbought, then it gets oversold. All these are fabulous opportunities. These are the things we look at. If you are going to treat the stock market as a hobby, as a passion, and if you are looking to enjoy it, this is what you should be hoping for.

Hopefully that has told you that the thing you fear most is probably actually the best bit of the stock market. If you are fearful, then you probably do want to do all those strategies – get rid of your speculative stocks, invest in defensive stocks, invest in income stocks, diversify. If that’s you, that’s fine. But there’s another side of the market which is much more profitable, much more fun, and we cover it every day, mostly through our Strategy Portfolio.

Sign up for a free 14-day trial of Marcus Today and, if you’d prefer a hands-off approach and want us to do the timing for you, take a look at MT20.