Market Correction
A market correction is a decline of at least 10 percent in a broad index from its recent peak, by long-standing convention. Corrections are frequent, normal, and usually resolve without deepening into bear markets, which begin at the 20 percent mark.
The name suggests prices correcting toward something, though nobody agrees on what.
The math
An index at 5,000 falls 10 percent to 4,500. A $200,000 portfolio tracking it is marked down to $180,000, a $20,000 paper loss.
Note the asymmetry on the way back: climbing from 4,500 to 5,000 requires a gain of 11.1 percent, not 10, and the gap widens with depth.
| Decline | Gain needed to recover |
|---|---|
| -10% | +11.1% |
| -20% | +25% |
| -30% | +43% |
Every percentage point of drawdown costs more than a point of rebound to repair, which is why avoiding forced selling at the bottom matters more than catching the exact top.
The trap
Two mirror-image errors. The nervous investor sells into the correction and buys back after recovery, converting a temporary 10 percent markdown into a permanent loss plus taxes.
The aggressive one carries leverage into it, and a routine 10 percent index move becomes a margin call that forces sales at the worst prices of the year. Both turn an ordinary event into real damage.
The move
A correction reprices everything at once, including businesses whose earnings never flinched, and that indiscriminate markdown is the stock picker’s harvest. Maintain a watch list of companies you already understand, each with a buy price computed in calm conditions.
When the market marks a durable business down 10 or 15 percent for reasons unrelated to that business, execute the list instead of the emotion.