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This negative 3.5% 'buy the market' signal has been a moneymaker 81% of the time

Green light. (Image: Wikimedia Commons)

In the history of the stock market, some of the best buying opportunities occurred after sharp sell-offs, with some of the single best days following the single worst days.

Adviser Investments’ Daniel Wiener reviewed the performance of the S&P 500 (^GSPC) — via the Vanguard 500 Index Fund (VFINX) — to see how the stock market did in the year following one-day sell-offs of 3.5% or more.

“Looking back over more than three decades and focusing on Vanguard’s 500 Index fund, which has long been the easiest way to ‘buy the market’ there’ve been 53 days when the fund has dropped 3.5% or more in a single trading session,” Wiener observed. “Those days have tended to be great buying opportunities as the average one-year return following a big single-day drop has run 21.1%! ”

Big sell-offs yield big returns. (Image: Adviser Investments)

As with most stock market patterns, the track record isn’t perfect. But it’s impressive.

“Investors have only seen negative returns in 10 of those years, so the likelihood you’d make money one year after a 3.5% or greater drop was better than 81%,” he said.

There are a million things that can be said about why this happens. Of course, each of these 53 instances come with unique circumstances. And there’s also plenty to be said about the frequency in which these swings occur with the advance of algorithmically-driven trading.

One thing to highlight is the presence of psychology and behavioral biases in the stock market. Indeed, when the market gets riled up, traders and investors often push prices too far in either direction creating opportunities for contrarians willing to go against the herd.

“The next test?” Wiener said. “June 24, 2017 which will be the one-year anniversary of the June 24, 2016 one-day wonder when the S&P 500 index dropped 3.6%.”

June 24 was when the UK unexpectedly voted to exit the European Union. The stock market has already recovered those losses and then some.

Sam Ro is managing editor at Yahoo Finance.
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