How to Profit from a Stock Market Crash

The fact is, however, that many people lose money (and lots of it) during a stock market crash, but it does not have to be so. So let’s take a look at a possible bear market, and how we can profit during an upcoming down market.

Generally speaking, a bear market is when the cost of a financial investment falls a minimum of 20% or more from its 52-week high. The Dow Jones Industrial Average hit its record high of 27,088 recently. If it were to fall 20%, down to 21,670, it would be considered in a bearish market. In stocks, a bear market is measured by the Dow, the S&P 500, and the NASDAQ. In bonds, a bear market might take place in U.S. Treasuries, corporate bonds, or municipal bonds.

Cheap Stocks = Massive Gains Over Time

If you act effectively, by not selling and rather continuing to purchase stocks, the more bear markets you experience as an investor, the higher the probability that you’ll eventually retire with a bigger nest egg. In other words, years of underperformance tend to be followed by years of overperformance. And those years of underperformance are an excellent opportunity to purchase shares inexpensively.

Other Investors Are Scared of the Stock Market

There is a simple reason why so many investors and even professional money managers are scared of the stock market–in the short term, stock prices seem arbitrary. Up one day and down the next, watching the ticker every second the market is open can cause one to wonder just what in St. Peter’s name is going on. Warren Buffett described this phenomenon like only Warren Buffett can:

Investors Sell on Fear and Buy on Greed

While most would not quarrel with the above comments, many do not take them to heart. It is not easy to hold on to your investments when they fall 40%. You start to lose confidence in your investing decisions. Then you start to wonder if there has been some seismic shift in the markets.

You Learn Your Own Risk Tolerance

A market crash presents a great opportunity to determine just what your risk tolerance is. Many mutual fund companies and brokerage houses offer a short survey to help you determine your risk tolerance.

The simple and easy way to profit from a stock market crash is to do one of the hardest things in life: nothing. “Don’t just do something, stand there!” is the best strategy, in my opinion.

Of course, this assumes that your asset allocation plan is appropriate for your investing horizon and risk tolerance. It also assumes that your investments have gone down because the market has gone down, not because you invested in some silly dot com company with no revenue.