Is the US Stock Market Going to Make a Correction in 2017?

The question of whether the US stock market will experience a correction in 2017 is one of the most frequently asked. While predictions of market movements are inherently challenging, understanding different strategies and the impact of past trends can provide insights into how one might approach investment decisions.

The Definition of a Market Correction

The term "correction" in the context of stock markets is often a placeholder for a decline of more than 10%. A correction is typically defined as a temporary decline in the market that follows an uptrend before the market resumes its upward trajectory. However, it's important to note that defining a correction after it happens can be subjective. Thus, instead of focusing on the term, it's more fruitful to consider strategies based on potential outcomes.

Potential Strategies for 2017

Given the uncertainty, let's examine three potential strategies:

Strategy 1: Buy Now Regardless of Corrections

Buying stocks now, assuming long-term returns are positive, is a straightforward approach. If you believe that the market will likely rise, this strategy might seem appealing. However, the actual outcomes can vary significantly.

Strategy 2: Wait for a 10% Decline to Buy

This strategy involves waiting for the market to fall by 10% before buying. This is a popular approach as it allows investors to buy when prices are more favorable. Over the last ten years, this strategy would have bought on the 10% decline 39 out of 60 times, saving at least 10% compared to buying now. However, over 61 out of 60 times, this strategy would have paid 13% more by buying at the end of the year. The risk and potential returns of this strategy are balanced, but there's a risk of missing subsequent returns.

Strategy 3: Buy or Stay Out Based on a 10% Decline

In this scenario, if a 10% decline doesn't occur within ten months, it's considered a market downtrend, and staying out of the market is recommended. This strategy offers lower risk compared to buying now but significantly less average return, which can be detrimental over a three-year period.

Analysis of These Strategies

Over a three-year horizon, the outcomes of these strategies are quite different:

Strategy 1: An average return of 30% with a standard deviation of 28 and a worst case of -33%. Strategy 2: An average return of 24% with a standard deviation of 24 and a worst case of -26%. Strategy 3: An average return of 10% with a standard deviation of 24 and a worst case of -26%.

Strategy 3, while offering lower risk, has significantly lower average returns compared to Strategy 2. Strategy 2, which saves 10% compared to buying now, offers a better trade-off between risk and return.

Evaluating the Likelihood of a 2017 Correction

The chance of a market correction in 2017 is a critical factor in deciding which strategy to adopt. Given that stock market valuations are high, the potential for returns below historical averages is more likely. However, many financial experts still recommend stocks as a better long-term investment choice compared to alternatives.

Conclusion

The decision to invest in the US stock market in 2017 ultimately depends on your risk tolerance and investment goals. If you believe that a 2017 correction is likely, Strategy 2 could be a prudent choice. However, even if a correction is not expected, buying stocks now, as in Strategy 1, remains a viable option. It's always wise to conduct your own thorough research and consult with a financial advisor to make informed decisions.