Leo Zwiener — Market Insights

When I first started my investing journey, I viewed market corrections as a negative thing that should try to be avoided at all costs. If stocks were falling for more than a couple trading sessions, I assumed it meant the market was broken or the next big crash was coming. After spending more time studying different markets, I’ve come to a conclusion that differs from my original thought. That corrections are not only normal, but are necessary for the market.

A market correction is typically defined as a decline of 10% or more and usually from a recent high. While that may seem like a lot, corrections happen very regularly and plenty of times through market history. It is a way for the market’s to adjust after periods of the market winning and large sometimes quick growth.

One reason corrections are important is that they help keep companies valuations realistic. During long winning markets, investors commonly become very confident, this sometimes leads stock prices pushing higher than what fundamentals alone would justify. An example of this is the recent SpaceX IPO. The share price was way overinflated compared to earnings. As expectations rise, so does the risk of disappointment. Corrections help extinguish the gap between price and reality, allowing markets to reset before the imbalances become even larger and begin to throw everything off.

I also think market corrections reveal a lot about an individual investor’s psychology. It’s easy to believe you have a high tolerance for risk when your portfolio is consistently gaining value. The real test comes when markets move down quickly. A correction often exposes the difference between the investors level of risk investors think they can handle reality when money is on the line.

Another reason corrections are important is that they create opportunities. Strong businesses do not suddenly become weak within a few trading days businesses simply go down and the stock does on discount. What I find particularly interesting is that investors often say they want lower prices to lower the cost of a great company, but when lower prices arrive, many become hesitant to invest in the fear that it will keep dipping. In theory, everyone wants a bargain but most are scared to invest during market corrections. That’s one reason investing is as much a psychological challenge as it is a financial one.

None of this means corrections are enjoyable. Watching your portfolio decline is uncomfortable, regardless of experience level. However, the more I learn about markets I start to see corrections as a common feature of the market rather than an imperfection. They help control the market and create opportunities that rarely exist when the market is always up. The market has experienced countless downturns throughout history, yet the long-term trend has remained upward. That’s why I believe successful investors learn to view corrections differently. instead of seeing them as signs that something has gone wrong, they recognize them as a normal and necessary part of wealth creation for the long term.