A market correction is defined as a rapid and significant change. This change is typically around a 10 percent decline in the price of a commodity. Market corrections can occur to a single commodity, or there can be a collective effect on multiple interdependent markets.
Market corrections are distinguished from, but not unrelated to recessions, and it is often a matter of degrees. Obviously, there are smaller more contained corrections, like the 90s dot-calm correction. And there are also larger, more frequent corrections that occur in the real estate market.
A market correction is often referred to as a “bubble bursting.” Essentially, before a correction occurs, the market is overloaded with unsustainable activity. During a correction, or when a bubble bursts, the free market must establish a new equilibrium price. Corrections are usually short-lived and resolve themselves in a matter of 3-6 months. However, some corrections are much longer and risk turning into full-blown recessions.
The market is like a living organism. And like organisms, sometimes they grow faster than what their ecosystems can suitably respond to. When this happens there is too much of one thing, but not enough of the other. In response to this conflict between glut and need, the growth of the organism slows until it can return to equilibrium with its environment. But if it does not, then the organism risks extinction. During a correction period, individual assets frequently perform poorly due to inhospitable conditions in the market. While this can be a time of market upheaval, corrections are often seen as ideal times to buy high-value assets at discounted prices.
Room for Improvement
With market analysis, corrections can sometimes be projected. This is done by comparing one market index to a similar market index. Using this study, an analyst may discover that an underperforming index may be followed by a similar index that is also underperforming. If this trend is consistent, these similarly slowing indexes may be a sign that a market correction is potentially coming.
Corrections can be deemed healthy for both the market and for investors. These declines can be an opportunity for the market to respond to unsustainably high prices. During corrections, investors have an opportunity to take advantage of discounted asset prices and come out on top in the longer term. This is also a useful time to take stalk of what is happening in the markets. And if one is able, unload any unnecessary burdens that are not serving the consumer or the market.
Corrections are a test to the system, making room for those who are more disciplined and patient. If the market is an organism, then finding a healthy metabolic balance is crucial for long-term health a survival.
Market corrections are just as real for cryptocurrencies. Since the inception of Bitcoin in 2008, there has been a surge of coins, tokens and blockchain project to the crypto-market. It is in many ways no surprise that the last few years have seen a serious culling of low-value coins and tokens, and the dead weight of the crypt-bubble would cause it to burst.
2018 was a year of correction for the crypt-world. That year culled unstable coins and fruitless fundraising methods. A similar cleans occurred in the mid-1990s when we saw the dot com bubble burst.
It is obviously seriously disappointing for many of those heavily invested in weak cryptocurrencies. On the other hand, it is an opportunity to learn from the currencies that have remained strong, if not a little volatile, into 2019.
To better prepare yourself, learn more about wash trading, how to stay smart while dealing in crypto-markets.
As I mentioned, a typical market correction is short-lived and usually lasts between three and four months. In the grand scheme of things, a correction or a drop of 10 percent does not seem that, and it really isn’t over the long haul.
Nevertheless, 10 percent is usually enough to cause enough investors to panic and sell low. When this happens the seasoned investors swoop in and buy low.
If you are looking for some guidance to kick-off your crypto-trading, read The Beginner’s Guide to Trend Trading for Crypto.
A Brief History of Market Corrections
It may be comforting to hear that market corrections are not a new occurrence, rather corrections take place with a certain amount of frequency. Since the industrial revolution, the market has a tendency to become overburdened, and some of our ambition needs to be checked.
The 18th and 19th century were no exception to the rule either, and as the American economy grew with real-estate and plantation investment several bubbles burst:
- The 18th century saw a serious market correction with what is called “The Panic of 1796-1797.” This also refers to the era when the land speculation bubble burst. The event marked the US’s first real estate and stock market crash.
Why did this correction happen?
The US was in the throws extensive of land development, as well as trying to recover from the rampant inflation caused by the Revolutionary War. At the same time, Britain feared the threat of war with France. This resulted in individuals withdrawing their investments. The market was forced into a correction with the combined stress on the market of American expansionism. The fear of solvency in the Bank of England added to the economic stress.
- A similar market correction occurred in 1837 in the United States. Experiencing yet another period of expansion, increased wealth from Mexican silver started a glut to the market. This resulted in a sharp rise in the price of land, cotton, and slaves shocked the market. However, the market was unable to keep up. As cotton continued to flood the market its value dropped by 25%.
- Much closer in memory was in 2006 when the US saw another housing market correction. Again, as a result of overly ambitious loans and decreased mortgage rates, big lenders were no longer able to pay their debts. This resulted in government bailouts as well as mortgage rate restrictions.
- Between 1980 and 2018, the U.S. markets experienced 36 corrections. Some of these markets did not return, while others recovered or transitioned into more stable stocks.
Market corrections occur regularly, and the cyrpto-market is no exception.
- 2018 was the year for corrections in both the traditional markets and the cryptocurrencies. February 2018, both the Dow Jones Industrial Average (DJIA) and the Standard & Poor’s 500 indexes were corrected by over 10 percent. Then in October Both the Nasdaq and the S&P 500 saw corrections.
This is good news for the earlier adopters of top coins like Bitcoin, Ethereum and Litecoin, to name a few. Those who have stayed the course will be rewarded for their savvy and endurance.
Not sure what counts as an altcoin or cryptocurrency? Read more about altcoins here on the blog.
The Take Away
Back to my analogy of the stock market as a living organism; like all living things markets need to find a healthy balance. And from time to time culling the unnecessary bulk of the ecosystem is most beneficial to long-term health and growth.
However, like an organism, the stock market is not always rational, and a certain amount of volatility is inevitable.
So when it comes to any investment, those who are able to weather the storms and mitigate impulsive behavior during market corrections that come out stronger.
The same is true for cryptocurrency market corrections.
There will always be some getting rich quickly, but for the rest of us, it is important to hang in there, and to trust the systems that have proven to endure and evolve.