U.S. Stock Market Plunges: Buy, Sell/Short, or Hold Tight?

The U.S. stock market rallied from last July until the end of April this year. It then stalled from May to mid-July, after which it began to plunge.

We are now in the midst of that plunge, with U.S. stocks falling another 3 percent on Thursday.

Cause of Decline

Stocks are falling simply because the economy isn’t doing well; closely-watched economic data have been shocking to the downside during this period. The Federal Reserve, meanwhile, has shown that it’s reluctant to rescue the market with QE3.

Globally, Europe is struggling and China is showing signs of slowing down.

Short?

Shorting isn’t a good idea, unless you’re in the camp that thinks a double-dip recession is highly probable.

Despite the current setback, it’s still a bull market and the economy is still expanding. Fighting a trend is rarely a good idea; the upsides of doing so are limited and successfully executing the short trade in a bull market requires impeccable timing.

The Wisdom of Holding Tight

Multiple legendary investors have often touted the wisdom of staying in cash in periods of uncertainty such as the current one. George Soros actually went to cash this spring and avoided the current market toil.

His deft move preserved his previous gains and propelled him to be included in the list of top 10 richest Americans.

One doesn’t have to switch to 100 percent cash.

Paul Nolte, managing director at Dearborn Partners, suggested hedging and reducing one’s market exposure, in an interview with IBTimes. (Nolte is 60 percent cash/bonds).

Don’t Miss the Rally

Assuming you missed the initial 2008 market decline, missing the final plunge in 2009 was okay. What’s not okay is missing the 2009 rally.

In 2010, missing the April correction was okay. Missing the subsequently rally, however, was not okay.

In 2011, the situation is the same. The best thing one can do, therefore, be cautious for now but not miss the eventual rally, which will occur after a strong catalyst or when the market breaks above the July high.

“Buy selectively. Focus on adding high dividend, large cap quality stocks that are being discounted by the market's decline,” Mark Luschini, chief investment strategist at Janney Montgomery Scott, told IBTimes.

“Not sure today is the bottom, but I do have my shopping list out and ready to go!” said Nolte.

Indeed, given the relatively cheap valuation of certain U.S. stocks, especially compared to the fixed-income market, many institutional players have their shopping list and are just waiting to step in.

But Will the U.S. Economy be OK?

It’s tempting to be overly negative about the U.S. economy given the weakness in the global economy, Europe’s sovereign debt problems, and the political impasse in Washington.

However, despite all these issues, the U.S. economy is poised to continue to recover, even if it does so slowly.

U.S. institutions still foster competition and innovation, U.S. corporations are sitting on trillions in cash, and the U.S. dollar retains its reserve-currency status.

Moreover, the U.S. stock market has shown it can decouple from and outperform the U.S. economy to some degree because of the international exposure of U.S. companies.

Please email Hao Li at hao.li@ibtimes.com.