How to Prepare Your Portfolio for a Market Downturn

As the year draws to a close, it is a good time to reflect and reassess your portfolio, investment strategy, and more.

The end of the year is an especially good time to review your portfolio, considering the fact that the markets have had an explosive year, with the Nasdaq Composite up nearly 42%, the S&P 500 up 23%, and the Dow Jones Industrial Average up 12%. Current as of December 21st (YTD).

What will happen in 2024? Is this the start of a bull market, or will stocks trend lower next year? It’s impossible to know for sure, but many experts say the economy will slow, interest rates will begin to fall and market growth will slow, especially in the first half of the year.

We can’t say prepare for the worst, as that may be too extreme given the circumstances, but there are a few things you can do to help navigate these potentially choppy situations.

Find your value

The valuations of many high-flyers have skyrocketed over the past 12 months because the market has soared to such high levels. The Nasdaq is up over 40% YTD, which is an average return, so this primarily applies to the technology sector. There are quite a few companies whose stock prices have risen by 80%, 90%, or triple digits.

A good way to determine whether a stock’s price is fueled by speculation or real earnings and earnings growth is to look at the price-to-earnings (P/E) ratio. Growth stocks will have higher P/Es than value stocks. However, if the percentage of one of your portfolio’s high-yield stocks falls far outside its historical range, its price may be too high relative to its returns, and it may fall if: The market slows down.

If a stock doesn’t have positive returns, you need to be more cautious. Check the price-to-sales (P/S) ratio for the event to ensure that prices are in line with sales growth and examine whether the company is moving toward a bottom line. It’s not uncommon for a startup or young company to post a net loss as it invests in growth, but if it’s not generating any revenue and isn’t moving toward profitability, that could be a red flag.

On the other hand, stocks with lower-than-normal P/E ratios may be good value given that the market is not recognizing earnings for whatever reason. When the economy slows or enters a recession, value stocks typically outperform growth following a recession, so finding good value now can pay dividends in the long run.

Consider bonds and other diversification factors.

In addition to finding good value, this is also a good time to evaluate portfolio diversification. If the market undergoes a correction or falls significantly next year, you don’t want to hold most of the same types of investments, such as large-cap stocks, technology stocks, or growth-oriented investments. casualty.

However, you can diversify into different stocks to ensure that no particular market performs the same. This means owning value stocks, small- and mid-cap stocks, and all-weather stocks that perform well in down markets. By doing some research on this and other sites, you can find out where to look for stocks or industries that are shaking when the broader market is shaking.

You can also add bond investments or funds to further diversify. Bonds are expected to perform well next year, especially in a scenario of a slowing economy. The returns offered by some bond funds will look attractive compared to more volatile stocks, and perhaps when interest rates start to fall in the second half of the year, bond returns could get even better.

We don’t yet know whether we’ll see a recession or recession, but it’s a good idea to review the value and diversity of your portfolio regardless of the environment. But doing so may become even more important if markets struggle.