Posted on 19 November 2018
Bull markets can present problems for new investors, especially when stock prices are obviously higher than fair value. Growth stocks in particular over the last couple of years have had a strong run, but this growth cycle has seen many companies trading on forward price earnings ratios that resemble inflated balloons and many investors are rightly starting to recognise the increasing risks of taking a full position in such companies.
What is the cost of staying out of a great business? Over the last few years the cost would have been significant and if the market continues the way it had been prior to the recent correction experienced in October, stocks that are seemingly over-priced will only become more expensive leaving investors having missed the opportunity.
Here are 5 tips for investing into a market close to the top of the cycle.
1. Looking backwards is not an investment strategy
Far too many investors look at past performance as an indicator of future performance. The focus should be on whether the stock/fund is well-rated and of a high quality. Has it been performing in line with expectations, has it been performing in line with its peers? The question you should be asking is “Is an investment in this stock/fund appropriate for me and will it help me meet my investment goals”?
2. You need to have a clearly defined investment strategy
This is really the only way you can hope to stay focused on your end goal. As much as possible you need to keep emotions out of it. Does the stock/fund match your investment strategy, if yes buy/keep, if it doesn’t, then don’t buy or sell it. It is the only way to stay on track.
3. Ensure your portfolio is well-diversified.
This is the best way to protect yourself. Ensuring you are not overly exposed to one asset class or even one sector of the market means that you are in a better position to absorb volatility in the market and subsequent losses that may arise.
4. Dollar Cost average into the market
This involves buying smaller parcels of a stock/fund at periodic intervals until you have reached your desired holding. This helps spread the buying process and makes the timing of the purchase less relevant. While you might buy the first tranche for a price lower than the second or third, it protects you from the future unknown.
5. Ensure you have cash to be able to jump on opportunities
In this type of market, it is not unusual for growth stocks/funds to experience pullbacks. These can prove to be great opportunities to buy into the stock /fun at lower prices. In markets where gains have been strong, it may be prudent to take profits off the table to build a cash war chest without allocating extra capital, ready to seize opportunities as they arise.