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How to survive a stock market crash

by Brian Palmer

Created on: February 10, 2009

Diversification alone will not protect you from a market meltdown.

Indeed, broad diversification will almost certainly guarantee poor results during a market meltdown.

It sounds counter-intuitive, but it's true.

Why is this? Well, say you own a broadly diversified basket of stocks, like an S&P index fund. Then because you own a broad slice of the market, and since the market is melting down, your portfolio is melting down too!

Wall Street is full of age old wisdom, but not all of it is wise through-and-through, and this is true of diversification.

So if diversification is no "magic bullet" to stay safe during a crash, what can we do to sleep tight as the rest of the market collapses? Read on to find out.

RECESSION PROOF

The first step in protecting your money in a down market is to buy stock in companies that make products which are recession proof. Companies like Procter and Gamble (soap, food, toiletries, etc.), Microsoft, Dow Chemical, Alcoa (aluminum) and Johnson and Johnson make products that the world cannot live without. In fact, the world would come to a screeching halt without the products made by these companies, and they have tremendously stable cash flow, even in deep recessions. Companies like these can be relied upon to rally during good times, but be far more stable during a down turn.

On top of buying shares in companies with great product portfolios, we also want to buy "best of breed" companies. This way, we can be sure the company will always be around to make the products!

And it's also a good idea to buy companies which are counter-recessionary, like Wal-Mart, and McDonalds. These companies actually get a boost during a recession, as people downgrade to stretch their available cash.

BUYER BEWARE (during good times, that is)

Once again, it may seem counter-intuitive, but the safest time to invest is when the market is collapsing, and the most dangerous time is during a bull run.

Every one is a genius during a bull run, and money, it seems, can be picked up off the ground. The late nineties were chalk-full of news reports about people striking out on their own to day trade stocks. Every one just couldn't go wrong.

But alas! The jubilation turned to anguish as the great technology boom ended, and the NASDAQ dropped precipitously. Countless individuals lost it all as the fly-by-night dot-coms burned their cash like kerosene.

The best way to protect yourself from this is, simply, don't participate.

Easier said than done, I know, but there are things you

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