Shanghai stock market continues its fall today, down 4%. That’s more than 30% fall in 1 month. Many investors start panicking, especially Chinese investors who got in late, thinking that stock market could rise forever. Many opened a margin account to trade (speculate).
While the daily news highlight is on the fall of the China stock market, journalists hardly highlight that it’s expected as the stock market has risen from 2000 to 5000 in past one year. Many analysts have called it bubble. Some expected it to correct at 3000, some expected at 4000, some 5000, some were even more bullish. Those calling 3000, 3500, 4000, 4500 were all wrong.
In market like this, you just can’t forecast the top and bottom. The irrationality can get out of hand. Buying begets buying. More novice investors opened trading account to make quick money. If you hear someone saying that they pick the peak correctly, ask how much money they made. Chances are they don’t make much or don’t make anything at all. Just a bystander giving free prediction. There are many amateur investors who want such prediction to reassure themselves they are safe, not peak yet, still some money to make. Similarly, don’t believe someone saying they can predict where the bottom is. No one really knows. So, you can’t predict how low it can fall to. Chances are there is still room to fall, considering that it’s still 75% rise from 2000s level.
Shall we call this 30% fall a stock market correction or crash? In the first place, it got irrationally high into 5000+ from 2000 in one year. If it had peaked at 3500 and fell back to below 3000, then people could have called it correction. If it fell from 5000+ to 3000, it’s hard to call it correction. Crash is a better word to describe it, although it doesn’t paint the picture of the rapid rise.
This crash has also dragged down the share prices of some good companies. So, while you didn’t benefit from the rise, you may want to pay more attention to the crash and pick some good stocks selling at lower prices. Note, this is an opportunity to find some good stocks at lower prices and hold them long term because you believe that they are doing good business and will increase their earnings. If your target is to bottom-pick the stocks and sell immediately when they bounce back, then it’s speculating. You may risk catching the falling knife.
A cheap stock can get cheaper. There is not theory that the share price of a good company selling at P/E ratio of 7x can’t fall to 6x or 5x. Hey, P/E falling from 7x to 6x is a 15% fall. Therefore, always invest in a stock with a mentality that if the stock market is closed for 5 years and you can’t trade at all during that period, you are still happy holding the stock and have confidence (based on reasonable analysis) that the company will increase its earnings, hence increasing its market value.