A lot of investors see a stock market fall as bad news. As someone who takes a long-term approach to investing, though, I take a different view. A stock market correction could offer me the opportunity to buy shares in great companies at lower prices.
Doing that could help me accumulate investment returns faster — potentially much faster.
If that lets me hit my investing target sooner, I could retire early! Here is an example – and a practical plan of what I could do next to set the ball rolling.
Buying quality on sale
I think diversification is an important risk management tool when investing, so in reality my pension pot would be spread across more than three shares.
But for the sake of simplicity, as an example, let’s imagine I choose to invest £10,000 across three well-known income shares: Legal & General, Lloyds, and Shell.
Right now those shares yield 7%, 4.7%, and 3.9% respectively. That means that splitting my imaginary £10,000 across them evenly ought to earn an average yield of 5.2% for my retirement portfolio. That would be £520 per year in dividends. If I saved the dividends up for 20 years, I would be sitting on a portfolio valued at £20,400 – more than double what I had initially invested.
I would not do that, though! Instead, I would invest the dividends in more shares, something known as compounding. Doing that, I ought to have a portfolio worth £20,400 within just 15 years. Compounding alone could help me reach the same result five years sooner than simply piling up cash dividends.
Turning a stock market correction to my advantage
But what if I invested during a stock market correction? Just over a month ago, for example, I could buy those same three shares cheaper than now. So the yield would have been bigger. Legal & General would have yielded me 9%, Lloyds 5.4%, and Shell 4%. The average yield would have been around 6.1%.
Making the identical move – investing £10,000 equally across the same three companies and compounding the dividends – I would have £20,400 in my account after 13 years. Simply by investing the same money in those three shares but at a different moment, I could achieve the result a couple of years faster!
A stock market correction is when shares fall 10%. The FTSE 100 did not even fall that much in the month up to 12 October. I include Shell in my example but its price back then was little changed to now. In other words, a bigger correction affecting more sectors might help me speed up my retirement even more!
Time to take action
That is why I am preparing now.
Nobody knows when the next stock market correction will come — and I want to be ready. I can do that by making a list of great quality companies I would like to buy if they are on sale at an attractive price.
My example above presumes constant share prices and dividends, which in practice are unlikely. However, it illustrates two simple but key points that can help me retire early.
First, compounding dividends can help me grow wealth faster. Secondly, buying great shares cheaply during a stock market correction can help me grow my wealth even faster!
The post Use a stock market correction to retire early? Here’s how appeared first on The Motley Fool UK.
C Ruane has no position in any of the shares mentioned. The Motley Fool UK has recommended Lloyds Banking Group. 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