At some points this year, the stock market has fallen close to 10% in a short period of time. That matches a common definition of a stock market correction. Many individual shares have done even worse.
As an investor, it is easy to throw one’s arms up in the arms and despair when the stock market tumbles. But I think it is more useful and indeed lucrative to treat such a moment as a buying opportunity for my portfolio.
How to think about value
What happens in a stock market correction?
The price people who want to buy shares are willing to pay for them is markedly lower than it was a short time before. But that does that mean the shares are worth less?
Think of a blue-chip company like Unilever or Shell. Such a firm has built its business over many decades, establishing a sizeable customer base and unique market position. There may be short-term problems. Selling prices can fall or input costs can increase, hurting profitability.
But does it make sense that the value of a firm can rise or fall significantly in a short period of time? For example, Unilever’s lowest share price this year was over 20% lower than its high price. Has the value of the consumer goods giant’s assets really moved around that much?
I do not think so. Instead, investors are confusing price with value. Price is what I pay for something (in this example, a Unilever share). Value is what it is worth.
Buying quality cheaply
Taking that approach, a stock market correction gives me a rare opportunity to build my wealth by buying shares in quality companies when I think their share price offers me particularly good value.
Not every stock market fall offers this chance. Sometimes, share prices fall because the value of businesses is decreasing. If oil prices tumble, for example, Shell’s future profits could be hurt. That would justify a lower valuation for the firm.
But sometimes, companies see their share prices fall with the market even though their business prospects are broadly unchanged. If a stock market correction means a fall in the share price of what I see as a quality company, it could give me a chance to benefit financially.
If I buy shares in great companies at an attractive price and wait patiently over the long term, like famed investor Warren Buffett, hopefully I could see my investment gain value. Whether or not that makes me rich depends on the long-term return and how much I invest. But it could increase my wealth — and potentially make me rich!
How I’d react to a 2023 stock market correction
That is why, rather than waiting for the next wobble in the market, I have already identified companies I would like to invest in if the price is attractive.
That way, if there is a stock market correction in 2023, I will be ready to wade into the market with confidence. I see the prospect of such a fall as a buying opportunity for my portfolio — because I already know what shares I might want to buy.
The post Stock market correction: a rare chance to get rich? appeared first on The Motley Fool UK.
C Ruane has no position in any of the shares mentioned. The Motley Fool UK has recommended Unilever Plc. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.
Motley Fool UK 2022