10 Ways to Prepare for a Market Correction
The S&P 500 hit 50 all-time highs in 2024 and has since hit new highs in 2025. Whenever such milestones make headlines regularly the anxiety of the potential market correction inevitably surfaces. Below are some ideas on how to prepare yourself and your portfolio for such potential events:
(1) Stay in the market and continue to automate your investing in a systematic way
Market timing is risky business. Missing the 10 best days in the last 30 years cuts your total returns in half. Continuing to add to your investment accounts on a monthly basis via automated investing tools is typically the best choice for most working individuals. This will also help you to continue to buy during any market pull backs without having to think about it.
(2) Assess which market risks are currently the most relevant ones
Knowing what risks are pertinent at a particular time will help you focus your attention on relevant portfolio actions.
| Market Risks | What to Know | |
| — Observable, Partially Predictable & Difficult to Time Perfectly — | ||
| 1 | Market Valuation Risk | Hitting all-time highs does not in itself imply the market is overvalued. Valuation is relative to earnings.
See 3 Key Metrics to Evaluate Market Valuation for details. |
| 2 | Recession Risk | Remember that the stock market is not the economy. Many of the best S&P 500 companies have global operations that are diversified and partially insulated from regional economic developments. They also have the ability to redirect cash flow to repurchase their shares which can be a source of value creation when revenue growth slows down. Stock market returns have been positive in 16 of 31 U.S. recessions since the Civil War.
When recessions do impact stocks, it’s typically through a reduction in demand creating headwinds for revenue growth. In the most severe cases there can be a self-reinforcing dynamic where falling demand triggers stock market declines, which impacts household wealth, which further leads to a pull back in demand. |
| 3 | Interest Rate Risk | Rising interest rates make the stock market’s earnings yield (E/P) less attractive relative to risk-free assets. This puts pressure on high multiple stocks (e.g. tech, biotech). The 2022 market correction was driven by valuation multiples contracting during a period of rising rates. Declining interest rates are typically positive for the stock market. |
| — Idiosyncratic and Hard to Predict — | ||
| 4 | Geopolitical / Shock Risk | Four Horseman of the Apocalypse events (war, famine, pestilence/pandemics, death). Extremely hard to predict. Portfolios of diversified, quality names are often the best insulation from unpredictable shocks. |
| 5 | Sovereign Risk | Historically not a concern when invested in US markets. Relevant risk for investing in emerging markets. |
| 6 | Market Function Risk | Examples: 1) Portfolio insurance products contributing to the 1987 stock market crash through automated selling. 2) 2010 flash crash |
(3) Revisit your market risk tolerance
An individual’s market risk tolerance is typically based on:
- Age and investment horizon
- When they need to start withdrawing money from the investment accounts and how much
- Comfort with short and medium-term volatility
If you don’t need to withdraw from your investments accounts for 5+ years, you should have a reasonable tolerance for investment volatility.
(4) Write down a market correction action plan
Imagine the market corrects 10-20%. How will you react? Are you comfortable holding your current portfolio through the recovery period? Will you use cash to make opportunistic purchases in high quality funds or stocks? Or are you likely to sell part of your portfolio? Thinking through this in advance and writing down a plan will make you less emotionally reactive to market corrections.
For reference, below are historical declines and recovery times throughout significant market corrections. The decline alone can continue between 2-24 months or even more in some rare cases. Peak-to-peak recovery times can be as short as 9 months in the case of the Covid-19 or more commonly 24-48 months. Keep those ranges in mind when evaluating your ability to emotionally endure a protracted correction.
Historical Rebound Times from Market Crises
| Crisis | Pre-Crisis Peak | Market Bottom | Peak-to-Low Market Decline % |
Peak-to-Low Decline (Months) |
Peak-to-Peak Recovery Time (Months) |
| Inflation Shock | Jan-2022 | Dec-2022 | -21.0% | 9 | 23 |
| Covid-19 Crash | Feb-2020 | Dec-1974 | -37.0% | 1.5 | 9 |
| Great Recession | Oct-2007 | Nov-1987 | -49.3% | 16 | 47 |
| 2000s Recession | Dec-1999 | Sep-2002 | -34.0% | 43 | 47 |
| Black Monday | Aug-1987 | Nov-1987 | -31.1% | 3 | 21 |
| 1973-74 Crash | Jan-1973 | Dec-1974 | -45.0% | 23 | 96 |
| Great Depression | Aug-1929 | Jun-1932 | -88.7% | 34 | 302 |
See Market Crashes Compared: 7 Big Sell-Offs for more.
(5) Review your portfolio
| What to Look For | What to Consider | |
| 1 | High valuation stocks that have run up significantly |
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| 2 | Leveraged ETFs |
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| 3 | ETFs / funds that have run up significantly | |
| 4 | Funds with higher valuation picks (e.g. QQQ) |
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| 5 | Thematic Funds (e.g. oil, uranium) |
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| 6 | Style Funds (e.g. Value, Growth, GARP, Defensive) |
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| 7 | Market-cap weighted funds (e.g. SPY) |
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| 8 | Opportunities for quality individual stocks or quality portfolio strategies |
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(6) Revisit asset allocation choices
Taking into consideration your risk tolerance and your investment horizon, revisit how much exposure to have to equities versus bonds? For individuals early in their working career, a high exposure to equities is appropriate. Shifting to bonds or equity products with downside protection make sense as you approach retirement.
(7) Revisit portfolio cash allocation
Those with longer investment horizons are better served by being fully invested in the market; however, for those who wish to opportunistically invest during a market pull back it makes sense to have some cash set aside in advance. It pays to be greedy when the markets are down meaningfully. A 25% decline requires a 33% gain to recovery. A 50% decline requires a 100% gain to recovery. Those that have cash to invest when the market is down have an opportunity for significant gains.
(8) Consider index put options to hedge portfolio risk
An SPY put option with a 6M expiration and an out-of-the-money strike of 10% below the current market value can cost about 1.0-2.0% of a portfolio’s value during “normal” times when volatility is average to fully hedge that portfolio (assuming SPY is the appropriate hedge). That can feel expensive when you’re actually pulling the trigger to purchase that put option. Depending on your risk tolerance, you may consider even lower strikes, limiting protection to say 50% of your portfolio instead of 100% or forgoing this altogether in favor of riding out any correction.
Keep in mind that puts work well for a significant correction that happens during a short period of time. They are not effective against slow, steady declines that happen over a multi-year period. These types of declines are rare but do happen.
(9) Consider a shift to Buffered, Hedged or Defensive Portfolios
| Portfolios | What to Know |
| Buffered (Defined Outcome) |
Buffered or Defined Outcome ETFs cap downside risk but also cap upside potential. They may be a worthwhile consideration for 6M-2Y periods when markets are highly valued. Examples of Buffered ETFs. |
| Hedged | Combines long-only exposure with a put hedge. Some examples include: Simplify Hedged Equity ETF, Trefis Reinforced Value Portfolio. |
| Defensive | Limits exposure to high valuation stocks and small caps. |
(10) Speak to an investment advisor or wealth manager
An advisor may be able to assist you in conducting a more objective risk tolerance assessment, reviewing your current portfolio and reviewing portfolio actions that may make sense. Advisors can also be a source of access to unique investment strategies. If you’re interested in access to Trefis systematic portfolio strategies or wish to connect with a rules-based systematic wealth manager check out this link.
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