Recently, the stock market has experienced a series of declines, reaching new lows almost dailyAs an experienced investor, I feel somewhat qualified to share insights that may uplift spiritsHowever, this is not just a motivational post; I intend to offer practical advice based on my personal investment experiences and how to navigate these turbulent waters.

Many individuals are feeling a sense of helplessness, questioning whether the market has hit rock bottom and if declines will continueThe truth is, no one has a crystal ball that can predict the future of the marketSome argue that valuations are so low that stocks can't possibly fall further and advocate for aggressive buyingHowever, many who suggest this are merely talking rather than acting; in reality, most investors lack the patience to hold onto their positions during downturns and instead find themselves stuck in losing positions

A significant number are now contemplating whether to cut their losses.

It’s essential to underline that valuation is never a reliable indicator of market bottoms in the short termIn fact, declining valuations can further accelerate market downturnsCurrently, the A-share market is not particularly cheap; my experience with B-shares reveals that almost all of them trade at prices more than 50% lower than their A-share counterpartsIf valuation alone determined the bottom, then B-shares should have skyrocketed by now, but they haven’t and often decline even more dramatically than A-sharesB-shares represent an abnormal market that lacks representativeness and solid backingIf we examine the more balanced H-share market, where the Hang Seng AH Share premium index clearly indicates that H-shares offer a substantial discount compared to A-shares, the findings are concerning; at a index level of 150, H-shares are 33% cheaper than A-shares

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Even allowing for the impact of dividend taxes, a level of 120 is considered normal, indicating that A-shares are at least 30% more expensiveNobody can guarantee that the currently undervalued Hong Kong stocks won't decline further, let alone A-shares.

Having started my professional investment journey in 2015, I have accumulated a wealth of experience and lessons when facing turbulent markets like the present oneHere, I will share how to effectively navigate a market that seems trapped in a downward spiral.

First and foremost, rather than trying to time the bottom, prepare for the possibility of further significant declinesWhy? In this environment, institutional investors feel heightened pressure compared to individual investors

Funds inevitably face increasing redemption pressures, amplifying sell-off forces that can drive the market down even moreThe market is powerful and cannot be swayed by mere sentimentAccordingly, as long as individual investors do not use leverage, they hold an advantage over institutionsEven without further declines, adopting a pessimistic outlook helps mitigate potential losses.

Furthermore, on the basis of this caution, continuously stress-test your holdingsFor a momentum investor, going with the flow is the right decision, so this concern may not ariseHowever, for those adhering to fundamental analysis, there's a duality at playOn one hand, a market decline makes stocks cheaper, presumably increasing their investment valueOn the other hand, market downturns significantly impact a company's fundamentals

The theory of reflexivity suggests that the market often fulfills its own propheciesThis dynamic resembles a balancing act: is it a time to create value or destroy it? Hence, a thorough analysis is imperative.

While retrospective analyses of the market may not provide significant insights for future decision-making, understanding the logic behind the current market declines can be beneficialThe ongoing macroeconomic challenges, coupled with the negative wealth effect stemming from downturns in both real estate and stock markets, are remarkably pronouncedIt's worth noting that the wealth effect of real estate is asymmetric; the positive effect during price surges isn't as strong as the downturn's negative wealth effectMoreover, real estate ties closely with related upstream and downstream industriesThe factors influencing the current market downturn are multifaceted; macroeconomics is just one piece of this complex puzzle

As fundamental investors, we should adopt a bottom-up approach that focuses primarily on individual companies and micro-level factors.

In summary, a declining market can amplify the risks posed by unhealthy firms, necessitating a thorough review of specific areas:

First, leverageLeverage can be a double-edged sword, especially in a declining market where high leverage can devastate firmsThere are two types of leverage: financial and operationalIn the realm of financial leverage, current circumstances in the real estate sector provide valuable lessons; some firms may never recover, while others are scrambling to survive, often resorting to desperately selling assets to stay afloatWe recognize that a company's bankruptcy is usually due to financial crises rather than operational losses.

Regarding operational leverage, firms with high operational leverage correlate with cyclical businesses

In adverse economic climates, extended cyclical downturns may cause a segment of these businesses to fail to recover from the cycle.

We can monitor leverage through metrics such as debt-to-asset ratios, current ratios, and working capital (current assets minus current liabilities) to assess the leverage position and make informed judgments based on market conditions.

Secondly, cash flow is criticalCompanies with robust cash flow possess better resilience; as long as market declines do not disrupt their business logic, these firms are relatively safe.

Third, dividends are closely associated with cash flow levelsIn value stock investing, dividends become even more crucial

The capability to pay high dividends attests to a company's genuine cash flow, acting as a safety netWith dividends as a foundation, falling stock prices become less concerning as the lower the price may amplify returns in the long run.

Fourth, industry positioning mattersSo long as the sector a company operates in isn't obsolete, the security of industry leaders remains assuredThe best enterprises within their sectors tend to withstand cyclical challenges better and are often positioned for growth opportunities following downturns.

Moreover, declining markets can present excellent reallocation opportunitiesEvery industry is influenced by economic cycles, albeit to different extentsFor example, consumer stocks, despite being typically resistant to downturns, have recently faced sharp declines due to the spending apprehensions fostered by the residual effects of falling real estate and stock assets

The impressive Kweichow Moutai has seen its stock price almost cut in half from its peakHowever, it’s worth noting that the business model of many of these firms hasn't fundamentally changed; their primary issue may simply have been inflated valuationsSuch companies tend to have low leverage and strong cash flows, meaning their price drops can represent opportunities rather than threatsFurthermore, these companies often have robust institutional holdings and liquidityConsequently, when facing market downturns and redemption pressures, they may experience abnormal declines, providing savvy investors a chance to capitalize on these dislocations.

Finally, and perhaps most importantly, understanding market cycles is paramount in stock investingIn "Cycles" by Mark McClleand, three pivotal laws are introduced: 1) movement won’t be linear, but rather cyclical; 2) cycles won't be identical, but rather similar; and 3) it’s crucial to avoid the middle and pursue extremes

To effectively approach cycles, three principles emerge: discern where the market is currently positioned within its cycle, maintain resolve to act contrarily during periods of excessive greed and fear, and prepare for possible errors both personally and in the market at large.

By comprehending economic cycles and recognizing the roles leveraged play, we can better understand corporate profit cyclesSimilarly, understanding psychological and credit cycles can inform us about market cycles that are most pertinent to investorsMarket cycles remind us that neither bull nor bear markets last indefinitely; every bear market experience strengthens our immunity against the next downturnYet, we must prepare for the worst; as the saying goes, markets can remain irrational longer than we can remain solvent.

In practice, the most significant threat amidst a persistent downturn is our emotional management capacity

Everyone is susceptible to bouts of overconfidence, and such tendencies can lead us astray in market strategiesThus, it's vital to prepare beforehand; avoid making snap investment decisions during turbulent timesInstead, establish your investment strategy on stable ground, articulate clear investment principles, and strive to assess your investments in a calm and objective manner.

Even professional investors cannot predict short-term market movements, let alone individualsUnderstanding our position as retail investors gives rise to certain limitations that might not grant us a competitive advantage in reacting to market changesOur strengths lie in patience, investment discipline, and long-term perspectivesConsequently, a critical task becomes assessing our cash positions—ensuring sufficient funds are reserved to weather potential challenges, so we avoid becoming forced sellers