For the individual investor, the prospect of another stock market crash like last year's can be terrifying.
Yet if the market collapses again, investment advisers say, the best thing to do is to keep cool and avoid impulsive stock trading.
"I tell my clients to do nothing," says Alfred Frank, publisher of the Prudent Investor newsletter in Santa Monica. "And it's not as silly as it sounds. The absolute worst mistake is to sell in a panic at the bottom."
Adds John Markese, director of research for the American Assn. of Individual Investors: "You shouldn't have such a volatile portfolio that you have to break your financial plan and sell in a crash."
In fact, many experts advise an aggressive, yet prudent, buying program to take advantage of the bargains produced by the tumbling prices. The key to rational behavior in an irrational market, they say, is lots of preparation.
Beyond those points, however, experts offer differing views. Some experts tell investors to prepare for a market calamity by giving their brokers standing orders on what to do with their investments in a crash.
Stan Weinstein, publisher of the Professional Tape Reader, says investors should have sell stop orders--that is, orders for a broker to sell shares should they fall below a predetermined price--for every stock held. Weinstein says if the sell order is set at the right price, it provides protection in a rapidly falling market.
"Investors may suffer a small loss but at least it's not a catastrophic one," he says.
The real value of the approach, Weinstein says, stems from the automatic execution. Investors are not required to reach a broker, something that many found virtually impossible on Oct. 19, 1987. "It's all in place before the crash," Weinstein says. "The investor has protected his positions in advance."
Similar standing orders to buy stocks when they fall to specified prices are known in some circles as wish lists: stocks you would own if the price were only low enough for your pocketbook.
Critics of Weinstein's theories say the biggest problem with sell stop orders is that they often can be triggered innocently in the course of everyday trading unless the order is set considerably below the current trading range. Even if a stock hits the sell order point and immediately rebounds, the stock is sold, often leaving the owner in an unfavorable position.
Further, some analysts argue that the orders may offer only illusory protection in a free-falling market. For example, Frank of the Prudent Speculator says an order to sell at $18 per share could be meaningless if a stock opens on the day of the crash at $15.
"Your shares are sold at $15 and you don't have anything to say about it," Frank says. "Perhaps you would have sold at $18, but not at $15. But with your standing sell order, you don't have a choice."
Standing buy orders come in for similar, although less intense, criticism. Many advisers argue that in a rapidly falling market, buy orders can be counterproductive because an investor can be locked into a purchase price that is considerably above a stock's crash-depressed trading level, thus robbing him of an even greater bargain.
Of course, such criticism assumes that an investor can reach a broker in a crashing market. It didn't work out that way for many on Black Monday, when telephone circuits clogged and trading systems overloaded. However, recent changes undertaken by the stock exchanges and brokerage houses should improve the average investor's ability to trade during a crash.
To avoid telephone tie-ups, some crash-wary investors have subscribed to computerized investment systems offered by discount brokerage firms so that they can place orders directly from their own PCs. Ordinarily, the systems let investors place orders more quickly. But experts note that computerized trading is sometimes hindered by jammed telephone lines the same way telephone trading is.
In any case, if you hope to buy stocks at a bargain in a crash--or if you're inclined to shun the standard wisdom and bail out of a collapsing market--here are a few ways to prepare:
- Get to know the brokers handling your accounts, regardless of the number of brokerage houses you use. It never hurts to ask for the right person when time is of the essence. Although discount brokerages don't readily advertise the fact, you can designate a particular representative at these firms to handle your account.
- Ask your broker for several telephone numbers so you have various ways to get through if phone lines are jammed. Many brokerages have added phone lines or sophisticated routing systems as a result of the 1987 crash.
- Make a list of all your stock holdings and keep it current. You should itemize the companies you have invested in and the number of shares you hold in each.
- Know where your stock certificates are. Your might let your broker keep your certificates so they can be gotten easily for a fast sale. Some brokerages may ask you to present your certificates before they will execute a sale. If you trade with more than one brokerage house, note on your master list which broker holds which certificate to ensure that you call the right place for your trades.