Should You Buy the Dip??

In this video, I cover some historic market crashes, talk corrections, and a plan of action to buy that freakin' dip!

Intro

If you’ve paid any attention to the stock market this year, you have probably noticed it has been down for the majority of this year. This begs the question: should you be buying this dip, or are we in for more pain and better off waiting to buy?

A couple of weeks ago, I mentioned how I didn’t want to make a video about how the stock market is crashing every time the market closes down half a percent… So while the market has certainly been pretty red for much of January, this isn’t some video to incite fear or blinded bullishness. Instead, I’ll do my best to put things into perspective and look at a reasonable approach to investing in this environment.

Warren Buffett once famously said, “Be fearful when others are greedy, and greedy when others are fearful.” To translate that into 2022-speak, he pretty much said buy the eff-ing dip. Right?

Of course, things are more nuanced than that. If you bought the dip on Bitcoin around the $57,000 level in November, well… you’d be down bad – over 32% down bad – as Bitcoin kept dropping and is now around $36,000. Ouch.

So let’s talk about where we are with the stock market and if now might be a good time to buy or if you’re better off waiting for price to drop even more.

Market Overview

To get a better idea of where we stand today, we have to first dive back into history.

In the stock market’s history, you’ve had 5 pretty major crashes. The 1920s were known as the Roaring Twenties, where the economy flourished. People thought the market would keep going up forever. Many investors were over-leveraged and trading on margin, despite the inherent risks.

The Roaring Twenties were brought to an end by the stock market crash of 1929, one of the catalysts that sent us into The Great Depression. There was a two-day crash in October where the Dow dropped 13% on Black Monday and almost another 12% on Black Tuesday. By the middle of November, the Dow had lost almost half of its value. It then continued to drop until 1932 when it hit a low of 41 points, down 89% from its all-time-highs. In then took until 1954 to regain its pre-crash value. That’s pretty crazy to think about.

Then, there was Black Monday in October of 1987 where the Dow plunged nearly 22%, which is the biggest single-day decline in stock market history. There were a few factors that are attributed to this sell-off: One was a tax bill that reduced tax benefits associated with financing mergers and leveraged buyouts. The US Department of Commerce also announced high trade deficit figures. There was also tension in the Middle East. Automated computerized trading was also gaining popularity, and there was a potential for these programs to create feedback loops that compounded the severity of the crash.

Then, we had the dot-com bubble. With the internet becoming more popular and accessible, many dot-com companies were founded. You also had a decline of interest rates and capital gains tax rates were lowered, which encouraged people to make more speculative investments.

Investors were eager to invest in just about any dot-com company. If these internet companies showed any promise – not necessarily profitability – they could become publicly traded and raise a bunch of money.

So you had a lot of companies that weren’t really making money being traded at high valuations. Then, in the year 2000, interest rates were raised several times, Japan entered a recession, Microsoft was guilty of violating the Antitrust Act, and a lot of these dot-com companies were running out of money. By October of 2002, the Nasdaq-100 had dropped 78% from its peak.

Okay, are you still with me? We’re almost done.

Between 2007 and 2009 we had The Great Recession, kicked off with the housing bubble, high levels of household debt, and vulnerabilities in the financial system. Investment banks collapsed, people lost their homes, etc.

In October of 2007 (why is it always October?), the market started to drop from its peak, hitting a low in February of 2009 for a 58% drop. It took until April of 2013 to regain that value.

In 2020, we had the COVID Crash, starting February and ending in March. As the name implies, there were concerns about the impact coronavirus would have on the economy. The Dow dropped by 9.99% on March 12th and 12.9% on the 16th, making it the second largest single day drop in history – the worst being Black Monday in 1987.

You also had an inverted yield curve. This is a rather rare occurrence and can often predict a recession. Normally, if you invested in a US 10-year treasury note, you’d get an interest rate of maybe 1 and a half %. This amount fluctuates, but that’s reasonable. And a 2 year note would give you only 1% or so. That makes sense, right? To entice someone to sock their money away for 10 years, you’d want to offer them a higher interest rate than a short-term 2 year investment.

An inverted yield curve is when short-term interest rates are higher than long-term interest rates. This means most investors believe that short-term interest rates are going to fall sharply at some point in the future… which can often indicate an upcoming recession.

The S&P dropped 36% from its peak, but recovered that value within a month, thanks to JPow and his money printer. In April, the central bank unveiled over 2 trillion dollars in new loans to keep the economy afloat and interest rates were cut to nearly zero, which were pretty aggressive steps to keep the market going.

And since then, the market has been absolutely ripping, up 121% from March 2020 lows. Just zooming out over the past decade will show you how steep this bull run has been.

Corrections

Now, no matter what WallStreetBets says, the market can’t keep going up forever without having corrections. And that’s where we are right now with the Nasdaq. A correction is considered a decline of 10% or more in price from its most recent peak. I’m recording this on the 23rd of January, and the Nasdaq is down almost 14% from it’s November highs.

According to CNBC and Goldman Sachs, the average S&P 500 correction lasts 4 months and has a 13% drop in value before recovering.

These corrections happen when an asset or market gets overinflated – so a correction is actually a good thing and part of healthy markets. I think Investopedia summed it up best:

The pros are it creates buying opportunities and calms overinflated markets. The downside is it can lead to panic and overselling, hurt short-term traders and investors and could lead into a prolonged market decline.

Correction or Recession?

Now the big question is whether this is just a regular market correction or if we’re headed toward something bigger – like a prolonged bear market and possible economic recession. Again, from Investopedia: A bear market is defined as sustained periods of downward trending stock prices, often triggered by a 20% decline from near-term highs.

Right now, the Dow Jones is down 7.4%, the S&P is down 8.8% from all-time highs, so we’re in correction territory, and the Nasdaq is down 14% from all time highs, which is showing us that the tech-heavy Nasdaq has sold off harder than the S&P as a whole. And let’s not forget the small caps in the Russell, which is down almost 20% from all highs in November.

So let’s look at some elements that may impact the market.

The inflation rate in the US has surged to 7%, which is the highest its been since June of 1982.

The fed has pivoted to a hawkish position, continued to slow bond purchases as it winds down quantitative easing by March. Basically, when the pandemic started, the fed eased monetary policy, which kept interest rates low and the stock market high… and that just isn’t sustainable.

It is expected the fed will have several interest rate hikes this year and we will likely hear an update to that timetable the day this video comes out, so it will be interesting to see how the market reacts to that.

And just to get a frame of reference as to where we are, the S&P is still up 100% from the lows of the COVID crash, so it’s important to keep the bigger picture in mind.

There are a lot more macro economic factors that can have an impact on how the market performs this year, so only time will tell how this all plays out.

EARNINGS SEASON

We are entering earnings season – when a large number of the publicly traded companies announce the Q4 earnings for 2021. You can see a lot of the large cap tech stocks will announce earnings within the next few weeks. These results and future guidance may give the market a bit of a bounce, so I’ll be watching closely to how the market reacts.

Take AMZN for instance. Their estimated earnings per share is $3.89. If they announce earnings of $6.50 per share and their guidance looking into Q1 of 2022 is interpreted as bullish by investors, well it’s possible their stock would rally. So if you have bullish reports and guidance from other large cap stocks, this could lead to the market moving higher.

When I’m Buying

So it’s important to remember that no one knows which way the stock market is going to move, especially a resident YouTube goofball.

So it’s certainly possible we get a relief rally this week after all of the recent selling. Maybe by the time you’re watching this, we’ve already seen a couple of green days – I don’t know. But one key level I’ll be looking at is the 200 daily moving average, especially on SPY. It’s Sunday night right now and futures trading has opened and we’re hovering right around that moving average. I’d like to see strong buying that closes above the 200.

Let’s look at the last time we broke the 200 Daily Moving Average in June of 2020. We then had a couple of green days closing above the 200, and then re-tested that level again a couple of weeks later.

So if we do get some buyers stepping in this week, I would consider scaling into some long positions, but if there is more selling, I would look to see how price interacts with the 4260 area, which supported price in October and July.

If you are a longer term investor and can stomach seeing some drawdown on your account, you can really make a lot of money if you buy during market corrections. But I just mentioned scaling into positions. If I had $10,000 I was looking to invest, I would start by buying with a smaller amount – maybe $2500. If price does indeed bounce and we continue higher and higher without seeing more signs of a market downturn – well, I’ve got a piece of the dip and will be in a pretty good spot.

If price continues lower, I can identify the next area where buyers are stepping in, and then invest another $2500. I would then look to invest the remaining 50% once we start making higher highs on the daily chart.

Now, that’s just one strategy I would consider, but I think it’s important to develop a plan to take advantage of getting in when the prices are well off their highs. Even if we see two-sided action and kind of chop around in lower areas, If I’m holding stocks for the next 5-10 years, I’m not worried in the least.

Tuesday Update

Alright, it’s now Tuesday, January 25th and the market just closed, so I wanted to quickly recap the action. On Monday, the S&P continued to drop pretty hard and broke below $421. But in the middle of the day, we had an absolute face-ripping rally and closed green on the day. This created a bullish hammer on the daily chart, which, if you’re a bull, is exactly what you want to see. Today was more of a balanced day with some whipsaw action and selling into close, and continued selling after hours as I film this. If you’re looking to buy, you want to see buyers be able to test this zone and break through it. I would not go long if we don’t see strong buying in this range. I imagine we won’t see a bigger move until after the fed releases a statement after it’s monetary policy meeting on Wednesday. So there’s a decent chance if you’re watching this now, that’s already happened. So trade with caution.

Final Thoughts

Well, I really hope this video helped give some references to market downturns in the past and put things in perspective. I’m not panic selling just because we enter a correction territory. I am instead looking to add to my portfolio during a time like this. But, that’s just me. At the end of the day, you have to do what’s best for your goals, risk tolerance, and investing timeline. There’s so much more research you can do and this is by no means a comprehensive video, but I hope you enjoyed it anyways.