Stock Sell-off: Is It Time to Panic?

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It was logical to assume the market would rally when the debt ceiling deal was finally done. And maybe it would have, if that were the only news. But there's scarier stuff on the horizon: Namely, whether our economic recovery remains intact.

It’s not hard to determine the market’s next move. It’s heading in the direction that will surprise and disappoint the greatest number of investors.
– Stacy Johnson, Money Made Simple 2003

Yesterday’s market plunge of more than 2 percent probably came as a surprise to a lot of people. After all, last week stocks had one of the worst five day stretches in years, as the fear of a debt default gripped Wall Street. When that fear was finally addressed yesterday with the raising of the debt ceiling, one could reasonably expect a relief rally.

And we might have had one if that was the only game in town. Unfortunately, other recent news overshadowed the conclusion of the great debt debate.

From a column I wrote yesterday called What Does the Debt Ceiling Deal Do to My Money?:

Before the debt ceiling debate began crowding out everything else, the focus in Washington was on the nation’s anemic economic recovery and 9.2 percent unemployment rate.

Cutting government spending will help reduce our nation’s deficit, but it certainly won’t help the economy. Just last Friday, the government announced that our national economy only grew by an expected 1.3 percent – not enough to create many jobs. More alarming, they also revised first-quarter growth downward from 1.9 percent to only 0.4 percent.

In short, investors are no longer afraid of Uncle Sam being unable to pay his bills. Now they’re worried about whether you’ll be able to pay yours. If the economy drops back into a recession – as noted above, something we’re getting closer to – corporate profits will tank. If corporate profits tank, stocks tank. It’s just that simple.

For a little twist of the knife, European debt is back on the front burner, with Spanish and Italian debt now being called into question. Some have hypothesized that if these countries go the way of Greece, the Euro itself could be at risk. If that happens, the effects to economies around the world could be devastating. (If you don’t understand why the debt of countries thousands of miles from ours could affect us, read this post I wrote last month: Why Greek Debt Matters.)

What should you do?

At the beginning of this year, I wrote a story called 3 Places to Put Money Now. The three places were stocks, houses and paying off debt. While paying off debt is always a good idea, thus far my other two suggestions sucked.

As of yesterday, the S&P 500 is officially down for the year, and while housing has shown signs of stabilizing, it certainly hasn’t taken off.  The reasons why are simple: Our economy can’t seem to get traction, and our elected leaders seem determined to keep it that way.

In addition to the debt ceiling, consider the FAA debacle: Since July 23, partisan bickering over $13 million dollars – pocket lint – has kept the FAA from being funded. That’s put thousands of people out of work and prevented the government from collecting more than $300 million dollars in tax revenue so far. And now Congress is in recess, meaning no resolution until September at the earliest.

This is not just infuriating – to those of us with stocks, it’s frightening.

These are the reasons I thought long and hard last week about taking some profits in my online portfolio. In retrospect, I obviously wish I had. But the truth is, I’m not yet ready to throw in the towel. My investments are long-term, and I’d still like to think that over the next 10 years, the path of least resistance is up, not down.

But if you don’t share my optimism, I certainly couldn’t blame you.

Stacy Johnson

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