Three Reasons Healthy Market Pullbacks Shouldn’t Scare Investors

As the old saying goes, what goes up must eventually come down.

Market pullbacks are the natural result of significant upward price movements in the stock market. And despite the widespread fear and worry that typically follows any downward trend on the market, pullbacks can actually help savvy investors with strategic, long-term investment plans.

What is a Market Pullback?

Market pullbacks are relatively common short-term market events that are characterized by falling stock and commodity prices despite a continuing uptrend. Put more simply, this means market pullbacks are short-term pricing “valleys” that occur after consistently rising price “peaks.”

This pricing reversal can occur for a variety of reasons, including buyer and seller behavior, earnings reports, unexpected mergers or acquisitions, and more.

What Does a Pricing Pullback Look Like?

Pullbacks can occur for a variety of reasons. Let’s take a look at a potential pullback scenario caused by buyer and seller behavior broken down into three simple steps.

Step 1: Company A’s strong earnings report stimulates a stock-buying frenzy that pushes their stock price to new heights.

Step 2: As new buyers flock to Company A’s stock, earlier investors begin to sell portions of their holdings to secure profits.

Step 3: A classic pricing pullback lowers the stock price in the short term due to the influx of sellers without ultimately affecting the upward pricing trend due to eager new investors continuing to drive growth.

Three Reasons Not to Panic After Pullbacks

If you’re still feeling a little anxiety about market pullbacks, check out these three reasons they aren’t as scary as you might think.

1. Pullbacks Bring More Buyers to Your Investments

Pricing pullbacks create two lucrative opportunities for investors.

First, pricing pullbacks on stocks with solid fundamentals often stimulate higher trading volume as new investors attempt to get into the upward trending stock at a discount. This buying action ultimately drives up the stock price and supports powerful upward momentum, pushing your portfolio further and further into the green.

Secondly, well-positioned investors that are confident in their stock picks can take advantage of price pullbacks to grow the size of their holdings without reentering at peak prices.

This early investor double-whammy can lead to outsized stock gains for investors that resist the urge to panic sell as soon as pricing begins to reverse.

2. Pullbacks Don’t Harm Long-Term Investments

Despite the uptick in short-term and day trading popularity driven by meme stocks like GameStop, Blackberry, and AMC1, holding stocks for the long-term still leads to the most consistent profits.

Buying and holding investments for longer periods has been consistently proven to lead to long-term profitability2, and market pullbacks aren’t nearly enough to buck this norm.

Market pullbacks occur relatively often, with 11 pullbacks occurring between 2000 and 2019. The good news is this regularity allows us to examine past pullbacks and see pullback years still tend to end up profitable3 for long-term investors, with an average return of 6% during years that ended in the green.

3. Diversification Blunts the Impact of Pull Backs

Diversification is one of the core tenants of responsible and successful investing. If your portfolio is well-diversified, you have little to worry about when the occasional pullback affects the market.

Because the stock market is composed of thousands of companies and dozens of industries, a stock price pullback in the automotive sector could very easily coincide with skyrocketing tech or real estate investment prices.

Investors with diversified portfolios may see short-term losses in the affected areas without sliding into the red.

Market Pullback Sparking Anxiety?

If you’re still concerned about the impact of a pullback on your investment portfolio, consider reaching out to one of our experts.

We specialize in building investment strategies that can withstand any market pullback and can help you modify your portfolio so you’ll be ready to not only weather the next pullback - you’ll be positioned to profit from it.

Tap the link to get started today.

References

1. https://www.fool.com/investing/stock-market/types-of-stocks/meme-stocks/

2. https://www.fool.com/investing/how-to-invest/famous-investors/warren-buffett-investments/

3. https://intelligent.schwab.com/article/stock-market-corrections-not-uncommon