SINGAPORE (Mar 12): There are two ways to navigate a market crash. You either buy now because stocks are underpriced, or you start selling because you want to reduce your losses.
How then, to identify which stocks to buy, and which ones to drop from your portfolio?
1. Determine the situation
“Unlike the Global Financial Crisis (of 2007 to 2008), COVID-19 is not a structural reshaping of economic fundamentals. It is a hiatus – a temporary suspension of normal activity. COVID-19 delivers an economic impact but in itself, it is not the cause of the impact in the same way that the GFC grew from credit mismanagement so the reactions to this market activity are different,” observes Daryl Guppy, an international financial technical analysis expert and CEO of Guppytraders.com.
“Investment stocks were generally deep in the money so it is profit rather than capital that is at risk. For many of these, it is appropriate to keep the positions open and wait for rebounds to develop as new entry opportunities, to build further into these long-term profitable investments,” he adds.
2. Study the company’s fundamentals
Before buying into a stock, you need to know its fair value. A stock’s fair value refers to the amount that a stock should be valued at, or true price per stock, based on its actual assets. You can derive that by studying its financial statements, by subtracting the total value of its external liabilities and dividends from the total value of its assets.
Now, when’s a good time to actually enter the market?
According to Thiveyen Kathirrasan, an analyst at The Edge Singapore, “Before buying into a stock, you should first understand the business you’re looking to invest in. Then, see if the stock is cheap enough to buy now. You will also need to check its fundamentals, analyse why its share price is going down, and subsequently determine a fair price for the stock. If the fair price is higher than its current price, it’s a good time to buy.”
If you’re wondering which sectors to focus on, Maybank Kim Eng Research analysts Thilan Wickramasinghe and Lai Gene Lih say sector valuations – including banks, some tech and industrial names – are trading close to troughs seen during the SARS outbreak in 2003.
“Warmer weather, together with coordinated government and monetary stimulus measures and better disease management, should keep (COVID-19) a limited event risk, rather than a systemic risk (such as the Global Financial Crisis), in our view. In this backdrop, we believe there are significant value opportunities, especially UOB, Venture Corp, and Bumitama Agri,” Wickramasinghe and Lai add.
See how to read and analyse financial statements here and here.
3. Study the charts
During times such as a market crash, knowing a stock’s fundamentals isn’t enough. The price of a stock is also determined by the world situation, macroeconomics, economic events, and market sentiment.
The charts will help you identify stocks that have oversold, and are now undervalued. You will also be able to determine a stock’s support and resistance levels, where you will see trends start to reverse after hitting a certain price range.
According to Chua Boon Siang, an Equities Specialist at Phillip Securities, “markets will tend to show some buying pressure at the support levels”.
“If these key psychological support levels are broken, this can be a signal that the upward trend is over and the market is entering a correction phase. Conversely, markets will tend to show some selling pressure at resistance levels. If some key psychological resistance levels are broken, this could in turn signal that the market is bullish and poised for an upward movement,” he adds.
So is buying into a stock when it hits its support and resistance levels encouraged?
Guppy doesn’t think so. “A buy signal may be initiated when it is proved that the support level can hold. Buying in anticipation of support holding in these extreme market conditions is a foolish strategy,” he says. “Proof is required.”
“Trend continuation is determined by simple trend lines and eyesight analysis. Unless you turn most of today’s charts upside down, it is pretty clear prices are falling. The large gap down behaviour disrupts the calculation of averages so traders must wait for this impact to wash out of any indicator that relies on averages,” Guppy adds.
The way he sees it, indicators including the Relative Strength Index (RSI), Stochastic, Moving Average Convergence Divergence (MACD), and Guppy Multiple Moving Average (GMMA) are currently giving unreliable signals.
“They will give extreme oversold signals, and cannot be used as evidence of a buy opportunity,” Guppy says.
Do note though, that while there are patterns technical traders usually use to establish when a stock price hits bottom, it is rarely 100% accurate.
You can only tell when a market has hit rock bottom or peaked “only with hindsight,” says Guppy.
Phillip’s Chua believes that while there is no “foolproof way to confirm whether a market has bottomed or peaked, you can use technical indicators to further enhance your prediction.”
“Price movements in market trends generally move in the form of waves. From a technical perspective, in a bull market, prices are pushed upwards before facing some form of correction downwards. Over time, when we start to see market prices narrowing, or when a series of equal or even lower peaks are formed, this can be a signal that the market is heavily resisted and is nearing its peak. Similarly, for a downward trend in a bear market, a series of equal or higher lows will signal that the market is heavily supported and could bottom out soon,” he adds.
“Several chart patterns will help confirm these behaviours but these lag by weeks or months,” Guppy shares. “Rounding bottoms (tops), head and shoulder (inverted) patterns, or spike lows (or highs) provide reliable indications of tops and bottoms. In a market fall, we look for a move above a downtrend line and confirmation from GMMA indicator relationships”.
See how to apply Fundamental Analysis, and Technical Analysis here.
4. Be cautious
Buying low has its risks as well. You want to avoid companies that may not survive the market crash. That is, even if you’ve bought a stock after a steep price decline, mitigate your losses and sell, if the company doesn’t seem likely to survive.
5. When is the best time to buy and sell?
For Chua, the best time to buy is “when the price hits rock bottom, and sell when the price reaches the highest peak”. However, in reality, he says “very few can consistently enter or exit at the absolute lowest or highest prices”.
“Hence the next best alternative in a market crash is to enter when you see a confirmation that your price has broken out of the previous resistance level and is now on an upward trend. The bottom line is that there is no sure-fire way to precisely pinpoint when a trend reverses, but using other technical analysis, investors can still enter and exit such that they do not miss out the main bulk of price action in the long run,” he adds.
Guppy believes that “aggressive traders buy in anticipation of a trend change”.
“Conservative traders wait for confirmation of the trend change. We prefer to buy as close to the stop loss point as possible. A trade exit is set on exact price conditions if the exit incurs a loss. An exit that locks in a profit has more flexibility and we may use several confirming signals for the exit. Trades based on chart patterns have defined exit target levels because chart patterns are based on measured move calculations. Trend trades have defined exit conditions, such as a Guppy Multiple Moving Average compression, or a move below a Traders’ Average True Range (ATR) protect profit stop,” he says.
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