What to Do When the Stock Market Crashes

When financial markets go into freefall, panic often eclipses prudence. Red lines dominate trading screens, breathless headlines crowd news feeds, and the instinctive reaction for many investors is to sell first and ask questions later. Yet history shows that such moments, while deeply uncomfortable, are neither unusual nor necessarily destructive for the disciplined investor. In fact, how one responds during a market crash can significantly determine long-term wealth outcomes.

The Nature of Market Crashes: Frequency and Duration

Stock market crashes—typically defined as a sudden decline of 20% or more from recent highs—have punctuated every era of investing. From the 1929 Great Depression to the 1987 Black Monday, the 2000 dot-com bust, the 2008 global financial crisis, and the brief Covid-19 plunge in 2020, each episode has felt uniquely catastrophic in its time. Yet over the past century, markets have not only recovered but often gone on to reach new highs.

Data from the S&P 500 illustrates this resilience. Since 1928, the index has experienced 26 bear markets (defined as a 20% decline from a recent peak) but 27 bull markets. On average, bear markets have lasted around 13 months, while bull markets have stretched over 55 months, with average gains of 114%.

The most severe crashes—like those during 2008 or 2000—lasted longer. The financial crisis took 17 months from peak to trough, while the dot-com collapse extended nearly 31 months. However, even the deepest downturns were eventually followed by robust recoveries. The S&P 500 lost 56% of its value during the financial crisis, but within five years, investors who had held their positions were well into positive territory again.

This context underscores a crucial truth: crashes are temporary. The long-term trajectory of equity markets, driven by innovation, productivity, and economic growth, is upward.

The Lure and Folly of Timing the Market

Despite this historical backdrop, the temptation to “time the market” during volatile periods remains potent. Market timing—the act of moving in and out of equities based on short-term predictions—can appear seductive. If one could exit at the peak and re-enter at the trough, the gains would be substantial. However, this strategy assumes a level of foresight and precision rarely achieved even by professionals.

Numerous studies have shown that even missing just a few of the best-performing days in the market can have devastating effects on long-term returns. According to a J.P. Morgan Asset Management analysis covering the 20 years ending in 2023, an investor who remained fully invested in the S&P 500 would have earned an annualised return of around 9.8%. However, missing the 10 best days would cut that return to 5.6%. Miss the best 20 days, and the return drops to just 2.6%. Miss the best 30, and the portfolio turns negative.

Crucially, many of the market’s best days occur close to its worst days. For instance, during the 2008 crisis, some of the strongest rallies happened amid deep panic. Investors who exited during steep declines often missed the powerful rebound that followed.

This phenomenon isn’t limited to distant history. In March 2020, as the Covid-19 pandemic froze global activity, the S&P 500 lost over 30% in a matter of weeks. On March 24—the bottom—stocks surged 9.4% in a single day. Those who had fled to cash missed not just a day of relief but the beginning of a recovery that would see the market double by the end of 2021.

Emotional Investing: The Cost of Fear and Euphoria

Understanding market mechanics is only half the battle. The psychological challenge of investing during a crash is perhaps greater than any technical skill.

Behavioural finance identifies a range of cognitive biases that impair judgement during turbulent markets. Loss aversion—our tendency to feel the pain of loss more acutely than the pleasure of gains—can drive investors to sell into weakness, locking in losses. Recency bias leads us to over-extrapolate recent events into the future, making a bad week feel like the start of a depression. Herd mentality, meanwhile, pushes investors to mimic the crowd, often amplifying volatility.

This emotional toll is quantifiable. Research from Dalbar, a financial services firm, has consistently shown that the average investor underperforms the market by a significant margin, largely due to poor market timing and emotionally-driven decisions.

The antidote to this is discipline—an unwavering commitment to a long-term investment strategy, ideally one anchored in asset allocation, diversification, and a clear understanding of one’s risk tolerance.

What to Do When the Crash Comes

So, what should investors actually do when markets tumble?

1. Resist the Urge to Sell

The most important action is often inaction. If your financial plan is sound, your portfolio diversified, and your time horizon long, selling in a downturn rarely serves your interests. In fact, for long-term investors, downturns often represent an opportunity to buy quality assets at discounted prices.

2. Rebalance, Don’t Retreat

Market crashes can skew your asset allocation. Equities may fall sharply while bonds or cash remain stable, leaving your portfolio misaligned with your original strategy. Rebalancing—selling some of the outperformers and buying more of the underperformers—can both restore discipline and systematically force you to buy low and sell high.

3. Harvest Tax Losses (Where Applicable)

In jurisdictions with capital gains taxes, a market crash presents an opportunity for tax-loss harvesting. This involves selling securities at a loss to offset gains elsewhere, reducing your overall tax liability, and reinvesting the proceeds in a similar—but not “substantially identical”—security.

4. Focus on Quality

Not all companies survive downturns equally. Crashes often expose weak business models and over-leveraged balance sheets. Use the period to assess the fundamentals of the companies you own. Consider rotating into firms with strong cash flows, durable competitive advantages, and manageable debt.

5. Continue Investing

If you’re in the accumulation phase—building your portfolio for retirement or long-term goals—then regular, automated contributions during a downturn can enhance returns through dollar-cost averaging. Buying through the trough reduces your average purchase price and maximises gains during the recovery.

6. Review, but Don’t Rewrite, Your Plan

Crashes are a natural time for introspection. Revisit your risk tolerance, investment goals, and asset allocation. But don’t mistake temporary volatility for a flawed strategy. If your plan was built with appropriate buffers and timelines, it should survive the storm.

The Long View: Why Time in the Market Beats Timing the Market

The stock market is not a casino, although it can feel like one in the short term. Over decades, it functions as a weighing machine—eventually reflecting the underlying performance of the economy and the companies within it. Investors who accept volatility as the price of admission to long-term returns are the ones most likely to reap the rewards.

Consider Warren Buffett, who has navigated more than a dozen bear markets since taking control of Berkshire Hathaway in 1965. His strategy? “Be fearful when others are greedy and greedy when others are fearful.” During the depths of the financial crisis, Buffett wrote an op-ed in The New York Times titled “Buy American. I Am.” His investments made during that period helped propel Berkshire’s subsequent performance.

The lesson is not that all investors should emulate Buffett’s picks, but rather his temperament: calm, patient, and opportunistic in the face of panic.

The Cost of Doing Nothing vs Doing the Wrong Thing

A final consideration is the often-overlooked distinction between active and reactive investing. Doing nothing in a crash may feel negligent. But reactive investing—selling in fear or chasing the latest defensive theme—can inflict lasting damage.

In contrast, doing nothing with intent—understanding that volatility is normal, recoveries are frequent, and discipline is powerful—can be a profoundly rational act. A portfolio that compounds at 7% annually doubles every 10 years. The path will not be smooth, but staying the course maximises the odds of reaching that destination.

Conclusion: Crisis as a Crucible

Crashes are inevitable. They are not black swans but grey rhinos—predictable in their occurrence, if not their timing. Each brings unique causes and consequences, yet each tests the same core principle: can you remain committed to your strategy when it feels most uncomfortable?

Investing success is less about forecasting and more about behaviour. The ability to endure volatility without capitulating is what separates the successful investor from the average. As the adage goes, “The market is a device for transferring money from the impatient to the patient.”

When the next crash comes—and it will—the investors who fare best will not be those who predict it, but those who are prepared for it.

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