Historically a financial crash have destroyed national economy, companies and families. Most countries takes years or decades to recover and some do not. We have seen some of the largest companies in the world go into bankruptcy. Families have been affected and some even take their own lives. Yes, it is really a gloomy fact which non of us wants to go through. When should we prepare for a financial crash as an personal investor in stocks and shares? Answer: We must always be prepared for the worse!
Firstly, there is a difference between a financial correction and a financial crash. As described by Powder Fool, a financial correction impacts the national index (Dow Jones, FTSE, CAC40, Nikkie, Hang Seng) up to 10-15% for a shorter period (1-3 months). Within the index itself, some companies may fall further that the index (20-30%) and a minority portion lesser than the stated percentage above. This is mainly impacted by a political incident, terrorism, national boundary tensions and many more. Some key examples is UK Brexit in May/June 2016 and Oil crisis correction in Q1 2015
A financial crash however is a longer bear market which can last from 18-36 months. During that period is feels like a slow degradation death with no recovery in sight, high inflation where goods & services get expensive, interest rates decreases and housing market crashes. Do you know that a Financial crisis is also a period where millionaires are made? Regular individuals with savings, taking the plunge buying discounted stocks and holding them for a recovery period. According to the Telegraph UK, there is an approximately under 1000 people with a millionaire ISA savings portfolio. Most of these people gain their growth by deploying their savings during the two financial crisis (2000-2004 and 2007-2009).
The Preparation Stage
Ensure you have non-invested savings
It is very important only invest money you can afford to lose. Never throw every single penny, including your savings and mortgage into stocks and shares portfolio because potentially you can lose up to 100%.
Non-invested savings are cash set aside within your portfolio where you can deploy when there is a market correction, discounted stocks or financial crisis. Many inexperience investors used up their non-invested savings and lack the funds to deploy during these discounted period and are forced to sell instead. Ask yourself today; How much money have do I have today if there was a financial crisis tomorrow?
Personally I would set aside 20% for non-invested savings. I make this a habit to save money for investment and a segregated amount for rainy day funds. The only time I deploy my non-invested savings is when the stocks are heavily discounted in my own calculated opinion. I may go for a long period where there would be non-attractive stocks, my non-invested savings would grow.
Currently Warren Buffett have $100 Billion in non-invested cash.
2. Diversify & Strengthen Portfolio
Diversify into other industry to broaden your base. These are my recommended examples:
- Technology Soft Industry – Google, Facebook, Netflix, Microsoft, Tencents
- Technology Hard Industry – Apple, Nvidia/AMD, Cirrus Logic
- Tech Retail Industry – Amazon, Alibaba
- Retail – Walmart, Marks and Spencer
- Oil and Gas – Shell, BP, Total
- Manufacturing – BMW/Daimler, Foxconn
- Buildings – Wimpy Taylor, Persimmon, Berkeley Group
- Banking – HSBC, LLOYDS, Bank of America
- Insurance Sector – Legal and General, Provident Financials, Aviva
- Pharma – GSK
- Household Shares – Unilever, P&G, Heinz, Diageo,
- Utilities – United Utilities, National Grid
I personally would expose myself to approximately 40% of defensive shares. The blue above is my classification of recommended defensive shares.
Also try to diversify to other foreign markets. This helps to diversify your currency. Try to hold some various major currency. For example if you live in the UK try to buy some EU, US and Hong Kong shares to open your exposure. If a single economy crashes the impact is reduced drastically. A good example is the Brexit in May 2016, where the British pounds declined for about 20% against the US Dollars. With Trump in administration the US market has surged about 30% too.
Financial Crisis Stage
Do not sell during a financial crisis
Rule of thumb is to hold your existing holdings. Unrealised losses are not losses until its sold. As long as the confidence of the business is long term there is no real reason to sell the business. If Amazon loses half its share value in a financial crash, people still need to shop for goods and services. Amazon will continue with its business and deliver their next day deliver prime. Facebook currently at PE ratio of 36, if a financial crash happened, its more likely to take up to 60% losses over the period. I will still use Facebook. Facebook will still monitor its activity and improve its security. They will still release new features and the business is usual.
As long as your portfolio are long term hold investment for its sustainable business, there is no reason to sell. Financial crisis is the time to buy your favourite stocks and shares.
“When it rain Gold, reach for a Bucket and not a Thimble” [Warren Buffett]
During this hardship period, it is very difficult to part with your money due to fear and anxiety. With all the negative press and uncertainty, its a normal human behaviour to think about selling your existing portfolio more than buying more.
When a financial crisis hits, it does not drop its full value overnight like a Xmas Boxing Day sales. According to experience investors, they would wait up to 10% index drop before they take any action. To ensure its not a temporary correction. Buy a little at this stage or you can hold. Be very patience and at the same time go in aggressively. At this stage most or all companies should be in the red and you have plenty of choices. Always buy good business and a fair price. Please be advised, when this discounted bus leaves it will not return for a long time. Make sure you have plenty of Non-Invested cash during this period.
Always be prepared for a financial crisis. As long as you keep the discipline of ensuring you have a constant flow of non invested cash and a strong diverse portfolio there is nothing to fear.