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Investing can be a head-scratcher for those who might not be extremely well-versed in it. In fact, investing can confuse even the most veteran of investment professionals. So if you find yourself occasionally confused by your financial statements, you’re certainly not alone.
One of the more perplexing investment dynamics is the market correction. Often times, the economy might be doing just fine. It will be exhibiting an even temperament and robust outlook, while your 401(k) or IRA is displaying consistent growth, when the market suddenly turns sour for no obvious reason and you start hearing about a correction.
While such occasions might not always be pleasant to experience, they can actually be helpful to your investments over the long run if you keep an eye on your financial strategy and goals.
By definition, a market correction occurs when a particular stock, industry, or index declines by 10 percent or more from its recent high. While the factors that cause market corrections can vary widely, their impact is always the same: turning your smile to a frown when monitoring your investments.
When experiencing a market correction, it’s important to remember that a correction and a crash are two entirely different things. A crash occurs when there is a systemic failure in one or more components of the economy, drastically lowering long-term economic expectations that will inevitably force a dramatic and sudden downward turn in stocks.
Market corrections, however, are temporary adjustments that are necessary to keep stocks trading at levels that are appropriate to their underlying fundamentals. After an extended period of growth, it’s only natural for investors to occasionally adopt a more conservative perspective and reevaluate where stock prices are actually trading versus where they should be trading.
To put market corrections into proper context, think of investing as a hike through a forest guided by a compass. During that hike, the more often you check your compass for true north and make the appropriate change in direction, the less likely you are to veer wildly off course.
Market corrections perform the same necessary function for your investments. While certainly not a day at the beach, they can ultimately have a positive impact on your long-term financial well-being. Assuming your asset allocation was appropriate to your personal level of risk tolerance, time horizon and investment goals to begin with, sitting on your hands and having thick skin through a market correction will be rewarding in the long run.