How To Take Advantage Of The Falling Stock Market

The stock market can’t always go up. It would be cool if it did, but it doesn’t. And when it’s going down hard, like lately, it causes investors a lot of anxiety as they see their portfolio value drop day after day.

But as nerve-racking as down markets are, they can also be an opportunity to find the next big winners.

This involves a concept called “relative strength.”

When the overall market is going down, everything is going to go down. Even the best stocks. But not every stock is going to go down the same amount in terms of percentage.

So, if the S&P 500 — the standard barometer for market health — goes down 10%, there will be some stocks that go down more, and some stocks that will go down less.

The ones that drop more, say 20%, are considered weaker than the overall market. But those that go down less, for example, 5%, are considered stronger.

They are stronger relative to the market. Hence the name relative strength.

These are the stocks that will go higher, faster, and generally out-perform the broad market when the selling ends and the market moves back up.

Relative strength can be determined in other ways as well, for example, by using a technical indicator like the 200-day moving average.

Currently, Apple (AAPL) is 20% below its 200-day moving average, but the S&P 500, as represented by the SPDSs Trust ETF (SPY), is only 9% below its own moving average.

This shows — despite what Apple fans think — that the stock is weak relative to the overall market.

Compare that to Facebook (FB) which is 9% above its 200-day moving average, meaning it is stronger than the overall market — even though it has sold off in this downturn.

Good relative strength usually means that the holders of a stock — individuals, hedge funds, institutions, etc. — are not yet willing to sell. And they will be more likely to put new money to work in these stocks when the market calms down — which will move them higher.

So when the market is falling, don’t fret. Step aside, wait, and get your shopping list together of the stocks that hold up the best. Those are the ones you will want to buy when the dust settles.

Brian Lund is a veteran trader with 30 years of market experience and VP of Business Partnerships at SparkFin.

The SparkFin app is a free and easy way to get new stock ideas every day. So do us a favor — download SparkFin from the iTunes store — and then go crush the market.