How to Profit When The Stock Market Crashes
Many of us have been through various “market” crashes in our lives. Recent market crashes we’ve experienced would be the tech bubble in 2000 and the real estate and stock market crashes of 2008. Each market crash provides two very important opportunities:
1. Opportunities to learn
2. Opportunities to maximize wealth
I, like many others, lost a significant amount of money in these crashes. I’ve tried to learn from each crash and to use what I learned going forward to become a better investor. In essence, each lesson learned is added to my long-term investment plan in order to provide future financial protection.
If you’ve read any of my articles or reports on this site, you probably already know my long-term investment plan. The basic plan is to buy residential real estate below value and to hold this investment long-term using the income generated to acquire shares of dividend blue-chip stock. The dividends paid by the blue chip stock are automatically reinvested into additional shares of the same stock to maximize the magic of compound interest.
This plan is significantly different than my original long-term plan and has been improved based on the lessons I’ve learned in these market crashes. The biggest improvement to this plan is that it is actually designed to capitalize on market crashes. Any future market crash will actually maximize long-term wealth IF I continue to follow my plan throughout each and every crash.
Right now, our local real estate values are still depressed and we are able to acquire nice homes below value. I’ve profiled several of these opportunities on this site and you can see them if you read through previous articles. This same investment opportunity does not exist in other markets throughout the country.
This depressed real estate pricing can provide annual returns of 12 to 16% after operating expenses. This income from the property helps to protect us from loss. Each month we capture part of our purchase price back as we collect our rent. If you purchase a $60,000 home and collect $8,400 of rent in your first year, you’ve just recaptured 14% of your investment. The price of the home would have to drop by 14% for you to lose money. More importantly, your $60,000 home is protected by hazard insurance. If it burns down or is damaged by a massive storm, you’ll recoup your original investment. If you buy $60,000 in corporate bonds and the company goes bankrupt, you’ll lose your entire $60,000. Insurance cannot protect you. This is one benefit to residential real estate few consider.
Residential real estate in our area is a major opportunity to maximize wealth because we can lock in very high monthly income that can be reinvested each month into shares of blue chip stock. This monthly reinvestment of rental income into blue chip stock is what financial planners refer to as “Dollar-Cost Averaging.” Dollar-Cost Averaging is defined by Investopedia as:
“The technique of buying a fixed dollar amount of a particular investment on a regular schedule, regardless of share price. More shares are purchased when prices are low, and fewer shares are bought when prices are high.”
Dollar-cost averaging automatically makes us better investors. It forces us to buy more shares when the stock price is lower and protects us by buying fewer shares when the price is higher. Dollar-cost averaging forces us to become value investors by accumulating more shares when values are lower.
By dollar-cost averaging our monthly rental income into shares of blue chip dividend stock, we are actually adding another loss prevention strategy into the plan. The reason why is because the dividend paid by the blue chip stock magnifies our dollar-cost averaging. If the stock price is depressed, the automatic dividend reinvestment acquires more shares of the same stock. The opposite is also true where the automatic dividend reinvestment acquires fewer shares when the stock price is elevated.
IF, and this is a BIG “if”, we continue to follow this plan during the next market crash, we have set ourselves up to maximize our wealth. As the stock market drops in value, our real estate will allow us to dollar-cost average into additional shares of higher quality dividend paying stock. Each month, our ownership of income producing shares will increase at a faster rate. The more the stock price drops, the more shares we will accumulate. Each additional share we accumulate during the crash will provide additional dividends to us. These dividends will reinvested into additional shares at lower prices.
The market crash will accelerate our acquisition of income producing assets.
The challenge someone following this plan faces is to stick with the plan when the next market crash arrives. It is hard to continue buying stocks each month when the market is crashing. Everyone you’ll talk to will be in panic mode. The news will scare us further with headlines like, “Wall St. in Panic As Stocks Crash.” We have got to stay committed to our plan throughout all of this knowing we are accelerating our wealth and will own many more shares of income producing blue chip stock when the crash ultimately ends.
This is actually where the real value of this long-term plan provides the most value to us. We can sit back and enjoy the crash because our shares of blue chip stock were not purchased with our money. The shares of stock were purchased by our rental real estate. Some may view the blue chip stock as “house money.” We didn’t purchase this stock directly. We compounded our income into the stock and therefore won’t have the same feeling of loss.
This is extremely important because we have a tendency to panic when we see our hard earned savings disappear. It is hard to continue following a plan when it feels like you’re losing money. We can avoid this panic knowing our savings isn’t being lost, because it isn’t. In fact, our savings has created a system designed to increase our ownership of income producing assets making us wealthier with every future market crash.
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