What is a stock market correction? How far will the market correction go?

All stock markets go through various phases of highs and lows. The market correction period is marked by overall downfalls of around 20%

What is a stock market correction

The economy has a sluggish outlook. Investor spirit looks weary as stocks are going on a gradual freefall since the recent high and are about to touch a trough of 20%. This grim situation of declining stock prices in stock market parlance is called “correction territory”. 

When stock prices are approaching their nadir and floating in correction territory, it signals a bear market and perhaps an impending crash. For the bear market investors, it is displaying resilience and holding on to their stocks, knowing the market drop will not last forever. Similarly, for the short-term investor, or the “Bull”, it is a period to scoot and sell before doomsday looms. 

Also Read: 5 Best Stock Performing Stock Market Sectors In 2021

Market Correction Meaning

Markets behave in unique ways and each has its own reasons for entering the correction territory. Investor sentiments dominate the market, and everything is based on speculation. If the investor speculates that all is not going to be well with the country’s economy, he would stop buying. This sentiment has a cascading effect on the overall performance of the stock market. Investors gradually realise that it is better to sell the stock as there is sluggish movement. Prices keep falling and would eventually knock on his purchase price. Fearing that it would incur losses, he, along with his short-term investor group, starts selling their stock. This results in a plunge or freefall throughout the entire list of stocks. The market correction trough will generally be at 20% from the last high achieved.

The overall market declines by 20%, but a particular stock might lose 25%–30% or more. The positives that can be derived from this scenario are that stock prices generally bounce back. They could also go above the previous high prior to the fall. It is the reputation of the listed company that would differentiate the falling percentage. Usually, the sectors that aren’t affected directly fall at a slower rate than the sectors affected directly.

During a war, if the market indexes go into correction territory, it is seen that infrastructure stocks keep falling. On the flip side, defense sector stocks show an upward trend. It is the stocks that go up that hold onto the overall stock market performance. These stocks also act as a cushion and prevent an imminent crash. Gradually, the stocks begin to climb back again at this stage. If not, this could plummet into a market crash, and would then slip into a recession mode. The majority of stock exchanges piggyback on trends of each other. This spell of doom is most of the time rescued by a bullish sentiment. A whole community of bull investors keeps buying and reviving the market.

A recovery to the level prior to the fall is again achieved but rather violently. It has been researched that when wars are declared and a correction happens, the upward thrust, which takes about 30–60 days, eventually surpasses the previous high benchmark. This happens as more investors and companies join the fray.

Causes of Market Correction 

Causes of market correction could be varied and plenty. It is what the investor's mind speculates, which could be the cause for him not buying. The sentiment shifts from “risk-seeking” to being “risk-averse”. The causes might be pandemics, a weakening economy, wars, inter-continental crises, and economic methodology shift to say an online economy, which are all the factors that might cause a market correction. 

Observations of History of Market Correction and Crash Effect 

Since 1965, there have been 12 market crashes, and of these, nine were between 2000 and 2020. The four noteworthy crashes were in 2006, 2007, 2008, and 2009. Market corrections in the Indian Stock Market have largely gone unnoticed. Market corrections are missed as they occur frequently While it may be easier to predict a market crash, experiencing one takes an extremely long time. However, the Indian stock markets are extremely sensitive and the frequent crashes were due to both internal and external effects. The market capitalisation of the BSE was around 4 lakh crores and now it stands at 250 lakh crores (approximately 3 trillion dollars). This shows the potential the Indian market has in terms of investment. 

Also Read: Top 5 Stock Market Gurus In India

Summary

If you are a patient investor, you might consider investing in stocks. The BSE has given a very erratic return every year. However, since 2015, the market seems to have stabilised. The BSE has returned an average of 13% in the last 10 years. So the clarion call is to invest in popular safe scrips and enjoy a 10% return over a decade. Your portfolio needs a multi-layered investment structure spread over petro-stocks, infra-stocks, and tech-stocks to cushion any ruptures in a specific category. However, it is obvious that an overall gain of approximately 10% is assured, which commodities, such as gold, could never match. 

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