How to respond when US stocks fall further? Investors need to understand these underlying principles

In the global financial markets, the performance of the US stock market has always served as a barometer. Whether it’s economic slowdown or geopolitical shifts, these factors are quickly reflected in the US stock performance. However, many investors face a dilemma when US stocks plummet sharply: should they sell off or buy the dip? To make rational decisions, it is essential to understand the true drivers behind the decline in US stocks.

The Driving Forces Behind the US Stock Decline

The fluctuations in the US stock market are not random; each significant drop has underlying logic. Understanding these driving factors is the first step for investors to avoid risks.

Economic data is the most direct influence. Slowing GDP growth, decreasing employment, and declining consumer confidence—when these indicators worsen, corporate profit expectations are downgraded, putting pressure on the stock market. Especially when the Manufacturing Purchasing Managers’ Index (PMI) falls below the 50 expansion/contraction line or when the Consumer Price Index (CPI) remains high, market participants tend to preemptively hedge risks.

Federal Reserve policy adjustments are equally critical. During rate hike cycles, rising borrowing costs for companies and weak demand on the consumer side directly depress stock valuations. Conversely, rate cuts can release liquidity. In September 2024, the Fed announced a 50 basis point rate cut, and such policy signals immediately influence investors’ outlook on future market trends.

Geopolitical risks and market sentiment should not be overlooked. International tensions, trade policy changes, and spreading panic among investors can cause rapid declines in US stocks. An increase in the VIX fear index often indicates heightened market volatility expectations, making cautious capital allocation especially important at such times.

What History Tells Us

Two representative major declines in the US stock market illustrate market fragility.

During the 2008 financial crisis, the collapse of the subprime mortgage market triggered a chain reaction. From late 2007 to late 2008, the Dow Jones Industrial Average (DJIA) fell over 33%, and the Nasdaq Composite declined more than 40%. Defaults by banks and financial institutions led to a global credit crunch, plunging the entire economy into recession.

In the outbreak of COVID-19 in 2020, US stocks also suffered heavy losses. Between February 19 and March 23, the DJIA dropped from 29,551 points to 18,591 points, a decline of 37%. Global economic activity nearly halted, and demand shrank sharply.

These events reveal a truth: whether internal risks within the financial system or external shocks, both can trigger major declines in US stocks. But for investors, the real test lies in the decisions made afterward.

Key Decisions During Downtrends: Sell or Buy

When faced with a sharp decline in US stocks, investors are often forced to choose between two extremes.

The temptation to sell comes from instinct. When unrealized losses grow, many choose to cut losses to prevent further damage. However, historical data shows that markets tend to rebound after significant drops. If investors rush to exit, they often miss subsequent upward movements, ultimately enlarging their actual losses.

Buying the dip also presents opportunities. Falling stock prices mean that some high-quality companies are severely undervalued. For investors with sufficient analytical skills and independent thinking, a declining market can actually offer excellent entry points. However, this requires ample capital reserves and psychological resilience.

The right approach depends on individual investment horizons and risk tolerance. Long-term investors can increase positions in fundamentally sound stocks that are oversold; short-term traders need to be more agile in adjusting strategies; investors with limited risk capacity should consider waiting or holding lightly.

Managing Risks with Hedging Tools

When the market is declining but you prefer not to exit completely, hedging becomes crucial.

Contracts for Difference (CFDs), due to their high leverage and low entry barriers, are popular hedging instruments. When US stock indices continue to fall, investors can short the S&P 500, Nasdaq 100, or Dow Jones indices to offset losses in individual stock portfolios.

For example, if an investor chooses to short the S&P 500 with high leverage, a decline in the index will generate proportional gains, enough to offset stock declines. Compared to options and futures, CFDs offer greater leverage and lower trading thresholds, making them especially suitable for small-cap investors.

However, using leverage tools requires caution. Excessive leverage can amplify risks, so it’s important to allocate leverage reasonably based on one’s capacity rather than blindly pursuing maximum leverage.

Gathering Information Before a Decline

Instead of passively reacting to declines, it’s better to proactively sense risk signals.

Investors should establish a daily information tracking system, focusing on economic calendars, financial data, and policy developments. Be especially alert to warning signs that could trigger a financial crisis: excessive leverage, asset bubbles, worsening credit risks.

During market highs, investors might consider reducing positions or allocating some defensive assets such as bonds, gold, or safe-haven funds. Diversification across different asset classes, sectors, and regions is also an effective way to reduce single-asset risks.

Timely information and quick reactions can help investors seize opportunities. Accessing real-time news via financial platforms allows for immediate understanding of market movements, significantly reducing decision risks caused by information lag.

Final Recommendations

The highest level of investing is not to be misled by short-term fluctuations. Market ups and downs are normal mechanisms; investors should view their portfolios from a longer-term perspective.

Regardless of market conditions, successful investors share three traits: clear long-term goals, rational emotional control, and flexible strategies that adapt to the environment. Through continuous learning and practice, accumulating experience in responding to market changes, they can ultimately make decisions during US stock declines that protect capital while seizing opportunities.