After a stellar run-up last year, this year got off to a rough start. And it’s still struggling.
Rising inflation weighed on prices early. And it’s now at 40-year highs.
And then the war on Ukraine, which exacerbated already high energy prices, only made it worse.
As such, all of the major indexes have fallen into correction territory (or worse).
But what’s important to know is that pullbacks and corrections are common.
Every bull market has them.
In fact, stocks usually pull back about -5% roughly 3-4 times per year. (A pullback is defined as a decline between -5% and -9.99%.)
And we saw roughly 3 pullbacks last year for the Dow and the S&P, all while the markets went up 18.7% and 26.9% respectively.
Stocks usually correct -10% on average about once a year. (A decline of -10% to -19.99% is called a correction.)
And we saw that with the Nasdaq last year too, while finishing up 21.4%.
But these are the pauses that refresh before the next leg up.
Now the markets are at it again.
While pullbacks and corrections are never fun when they’re happening, if you know these are commonplace moves, you can instead look at them as opportunities to buy rather than places to sell.
Continued . . .
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At Its Worst
The Dow, at its worst (using their all-time high close, to their correction low close), was down -11.3%. The S&P was down -13.9%. And the Nasdaq was down -23.2%.
A decline of -20% or more is the official definition of a bear market. Those happen about once every 4½ to 5 years.
I should point out that when the indexes were last in a bear market (which bottomed in March 2020 of the pandemic), all of the indexes fell by more than -30%. Of course, it was a pandemic, and everybody feared the worst. But within days, the S&P exited their bear market (defined as a gain of 20% from their lowest close), the Dow did the same a week later, and finally the Nasdaq 3 weeks after that.
We all know what happened next. The Dow soared by more than 97%, the S&P by 114%, and the Nasdaq by 134%.
I point these stats out because the economic carnage we saw back then was staggering with Q2 2020 GDP down by -31.20%.
But that’s NOT what we’re seeing today. Nothing even remotely close.
In fact, full year GDP is forecast at 2.8%, with 2023 at 2.2%.
So yes, the Nasdaq is officially in a bear market. But it might very well be as fleeting as the last time. Because the economy is strong. The labor market is strong. Incomes are strong. Consumer demand is strong. And corporate earnings are strong.
Bear markets typically coincide with recessions (defined as two quarters in a row of negative GDP).
Some are speculating that we could be on the cusp of a recession, given last week’s GDP report which showed Q1 down -1.4% vs. the consensus for a gain of 1.1%.
But a closer look at the numbers actually shows a strong economy.
It showed consumer spending was up 2.7% q/q, which was a faster growth rate than the previous quarter’s 2.5%. Business investment was up 9.2%, with equipment leading the way with a 15.3% gain. Residential investment was up 2.1%. And final sales to private domestic purchasers were up 3.7% vs. last quarter’s 2.6%. (It was lower government spending, lower exports, and lower inventories that weighed on the numbers.)
And don’t forget, the Fed is raising rates because the economy is strong (too strong, hence inflation), not weak.
But even with the Fed raising interest rates by another 50 basis points on Wednesday, interest rates remain near historically low levels.
And while rates are expected to get as high as 1.9% by year’s end, they will still be at historically low levels at that time too.
This is important to know because over the last 50 years, there’s never been a recession (aside from 2020’s pandemic-induced plunge), when the Fed Funds rate was under 4%.
So with officials pegging rates at 1.9% this year, 2.8% next year, with no further rate hikes in 2024, we’ll remain a long way from 4%.
Some have also speculated that we could see stagflation.
Stagflation is marked by high inflation, but also high unemployment, and low growth or ‘stagnant’ growth, hence the word stagflation.
We definitely have high inflation, that’s for sure.
And while oil is above $100 a barrel, that doesn’t automatically spell doom for the economy.
In fact, it traded above $100 in 2011, 2012, 2013, and 2014, all while GDP averaged over 2.0% during that time.
But again, in addition to high inflation, stagflation also needs to see high unemployment, and low growth.
But unemployment is extremely strong. There’s literally millions more jobs available than there are unemployed people to fill them. So, employment looks like it will remain strong for the foreseeable future.
And so does growth. The amount of pent-up economic demand being unleashed is poised to lift GDP even more and potentially usher in a multiyear boom. Especially with the Fed raising rates to combat inflation, as that will only benefit the economy, not harm it.
Fed Chair, Jerome Powell, went so far as to say he thought the economy would “flourish in the face of less accommodative monetary policy.”
All three of those conditions for stagflation matter. Not one or some, but all. And that’s what can help investors distinguish between normal corrections (no matter how ‘un-normal’ they feel), where one should look to buy, and a decline where one should look to sell.
Riding the Bull
While the markets are in correction mode, there’s nothing wrong with raising cash by getting out of your laggards and poorest performers – stocks you know you should have gotten out of long before this decline even happened.
But then replacing them with the strongest stocks that will be the new market leaders.
You don’t have to go all in at once. But you can start taking nibbles at these discounted prices.
That’s true for your favorite stocks. As well as plenty of new stocks that you may not have even heard of yet.
But the time to get ready for the next leg up is now.
Do What Works
So how do you fully take advantage of this correction, and not squander this opportunity with preventable mistakes?
By implementing tried and true methods that work to find the best stocks.
For example, did you know that stocks with a Zacks Rank #1 Strong Buy have beaten the market in 28 of the last 34 years (an 82% win ratio), with an average annual return of 25% per year? That's more than 2 x the S&P. And consistently beating the market year after year can add up to a lot more than just two times the returns.
And did you also know that stocks in the top 50% of Zacks Ranked Industries outperform those in the bottom 50% by a factor of 2 to 1? There's a reason why they say that half of a stock's price movement can be attributed to the group that it's in. Because it's true!
Those two things will give any investor a huge probability of success and put you well on your way to beating the market.
But you’re not there yet, as those two items alone will only narrow down a field of 10,000 stocks to the top 100 or so. Way too many to trade at once.
So the next step is to get that list down to the best 5-10 stocks that you can buy.
Proven Profitable Strategies
Picking the best stocks is a lot easier when there’s a proven, profitable method to do it.
And by concentrating on what has proven to work in the past, you’ll have a better idea as to what your probability of success will be now and in the future.
For example, if your strategy did nothing but lose money year after year, trade after trade, over and over again, there’s no way you'd want to use that strategy to pick stocks with. Why? Because it's proven to pick bad stocks.
On the other hand, if your strategy did great year after year, trade after trade, over and over again, you'd of course want to use that strategy to pick stocks with. Why? Because it's proven to pick winning stocks.
Of course, this won't preclude you from ever having another losing trade. But if your stock picking strategy picks winners more often than losers, you can feel confident that your next trade will have a high probability of success.
Stock Picking Secrets of the Pros
One of the best ways to begin picking better stocks is to see what the pros are doing.
Whether you’re a growth investor, or a value investor, prefer fast-paced momentum stocks, or mature dividend-paying income stocks, there are certain rules the experts follow to maximize their gains.
This applies to large-caps and small-caps, biotech and high-tech, ETF’s, stocks under $10, stocks about to surprise, even options, and everything in between.
Regardless of which one fits your personal style of trade, just be sure you’re following proven profitable methods that work, from experts who have demonstrated their ability to beat the market.
The best part about these strategies is that all of the hard work is done for you. There’s no guesswork involved. Just follow the experts and start getting into better stocks on your very next trade.
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Thanks and good trading,
Kevin Matras serves as Executive Vice President of Zacks.com and is responsible for all of its leading products for individual investors. He invites you to start our see-all Zacks Ultimate $1 experience and download the just-released Ultimate Four Special Report today.
¹ The results listed above are not (or may not be) representative of the performance of all selections made by Zacks Investment Research's newsletter editors and may represent the partial close of a position.
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