A $20 million loss and a painful lesson: About bottom-fishing in U.S. stocks, you only need to remember these "Three Do's and Three Don'ts"

Author: SOL Who Can’t Understand

After losing 20 million yuan, I finally understand that when investing in A-shares, the most important thing is to escape the top; when investing in U.S. stocks, the most important thing is to buy the bottom.

Escaping the top in A-shares, especially the major peak, is the easiest and also the most difficult. The reason it’s considered easy is that the peak in A-shares is a typical crowd-driven top; in hindsight, it’s almost as if the words “major top” are written on the candlestick chart.

The difficulty lies in the fact that you can only make money in A-shares by going long, and since the stock market generally rises over the long term, escaping the top is akin to locking in gains. It doesn’t generate profit by itself, and human nature is inherently greedy.

In comparison, the most important thing in U.S. stocks is to buy the bottom. Over nearly 20 years of market observation, the golden rule is to buy on dips whenever they occur.

In other words, if you have already invested money, the simple approach is to hold it steadily. The key question is: when will new money buy the bottom? And in U.S. stocks, the easiest and most difficult part is also buying the bottom.

The reason it’s considered easy is that U.S. stock market bottoms are characterized by “small dips, small buys; big dips, big buys; no dips, no buys.”

Since 1776, all those betting against the United States have ultimately ended in their own disastrous defeat.

The reason it’s considered most difficult is that most people transfer from “buying the bottom in the middle of the climb” in A-shares, suffering from “bottom-picking syndrome,” always wanting to buy even lower for safety. As a result, they hesitate to buy during declines and chase after rebounds.

Therefore, when a buying opportunity in U.S. stocks appears, everyone must clarify two questions:

1. Under normal circumstances, how much can U.S. stocks fall in a correction?

2. If a black swan event occurs and the decline continues endlessly, what should be done?

3. How deep can U.S. stock corrections be? First, we need to define what “correction” means.

Typically, corrections are categorized into daily, weekly, and monthly levels. A correction in a single decline is considered to meet one of two conditions (definitions may vary; these are my standards):

• Daily level: a decline of more than 5% from the peak, or lasting more than two weeks (the time span from the highest to the lowest point);

• Weekly level: a decline of more than 10% from the peak, or lasting more than four weeks;

• Monthly level: a decline of more than 15% from the peak, or lasting more than four months.

Meeting any one of these conditions qualifies as a correction. Some corrections are shallow in magnitude but prolonged in duration; others are deep but short-lived. Once the definition is clear, the goal of buying the bottom boils down to two objectives:

Objective 1: Buy the positions you want to hold

Objective 2: Buy as cheaply as possible

Markets always look back with clarity. When we are in confusion during a wave of correction, we can only determine two things: how much the previous high has fallen today, and how many days it has taken.

The market may continue to fall, or it may consolidate or rebound.

Thus, these two objectives can conflict: buying too early might fulfill Objective 1 but at a higher price; aiming to buy cheaply might result in missing the rebound and missing the opportunity altogether.

This is why understanding the historical correction depths of U.S. stocks probabilistically helps in setting reasonable targets.

Historical large retracements of over 30% in U.S. stocks and their causes:

Taking the S&P 500 as an example, over the past 20 years since 2004, there have been only 7 monthly-level corrections, caused by:

• Jan–Oct 2022: The most intense rate hike cycle in 40 years

• Feb–Mar 2020: Global public health crisis

• Sep–Dec 2018: Trade war combined with rate hikes

• Jul 2015–Feb 2016: Central economic slowdown plus rate hike expectations

• Apr–Sep 2011: Deepening European debt crisis

• Apr–Jun 2010: European debt crisis and Goldman Sachs fraud scandal

• Oct 2007–Mar 2009: Subprime mortgage crisis

Thus, monthly corrections are quite rare, averaging about once every three years, each driven by macroeconomic fundamentals. There was a 44-month period from September 2011 to July 2015 with no corrections, a prolonged bull market.

Weekly corrections are more frequent, occurring 2–3 times per year, and do not necessarily require macroeconomic reasons—simply overextended gains can trigger corrections.

Therefore, the first step in buying the bottom is to determine whether this correction is at the weekly or monthly level.

However, stock movements are influenced by various new information, making precise predictions difficult. The Federal Reserve doesn’t operate for your benefit; bad news and good news don’t arrive on schedule—luckily, you can still set your own goals.

You need to consider: if you had to choose between “buying” and “buying cheaply,” which would you prefer?

If you choose the former, then you should assume the correction is at the weekly level and plan accordingly. Even if it turns out to be a monthly correction, you can still achieve your first goal. Conversely, if your goal is to buy cheaply, you should prepare a bottom-fishing plan based on monthly corrections.

In general, I recommend prioritizing “buying” especially when you have idle funds. This is because monthly corrections occur roughly once every three years—probability-wise, it’s not high—and if you have cash but can’t buy U.S. stocks, you might end up investing in other high-risk products.

With a clear goal, the plan becomes much simpler.

2. Timing and positioning: When should you start your U.S. stock bottom-fishing plan?

For example, if you are targeting weekly-level corrections, as long as the market doesn’t make a new high in two weeks, a daily-level correction is already underway, and you should prepare a plan for a cyclical correction.

The core of U.S. stock bottom-fishing is two words—divide and conquer.

There are two types of batch plans: one based on time intervals, buying at regular intervals; the other based on price levels, buying when the stock falls to certain points. Based on the past 20 years’ data, the average time from peak to bottom at the weekly correction level (excluding monthly corrections) is about 10 weeks. So, a time-based batch plan could involve buying every three weeks, starting from the high point, with the second purchase spaced further apart.

For position-based batching, you could also divide into three parts: buy one batch after a 3% decline, and if the decline reaches 10%, you can complete the entire bottom-fishing plan.

The success probabilities of these two plans differ: time-based plans are generally more reliable, unless the correction is only at the daily level and the market quickly makes a new high, which is not necessarily a loss—at least you’ve seized a daily correction opportunity to increase your position.

Position-based plans may not always succeed, as many weekly corrections are prolonged but do not reach a 10% decline.

If the weekly correction is the goal, then “time batching” should be prioritized. Even if the decline isn’t deep enough, once the correction period ends, you should execute the batch buy plan.

For monthly correction targets, the average duration to the bottom is about 6.5 months, but with large variation. It’s wise to accept that you might not complete the entire plan—buy as much as possible.

Positioning shouldn’t be evenly distributed; instead, allocate more at the start and less later. For example, three batches could be 1/2, 1/3, and 1/6 of the total plan.

Time-based batching could be: month 1, month 3, month 6; price-based batching could be: decline 3%, 8%, 15%. Often, targeting a monthly correction results in completing only a weekly correction plan with insufficient volume. Therefore, I recommend primarily focusing on weekly correction plans.

In summary, three do’s and three don’ts for bottom-fishing U.S. stocks:

1. Do plan in batches; avoid making decisions impulsively during trading hours or engaging in emotional trading.

2. Focus on “buying enough,” with “buying cheaply” as a secondary goal.

3. Prioritize “time batching,” with “price batching” as a supplement.

Bottom-fishing in U.S. stocks is a mechanical process, and the long-term upward trend with relatively low volatility is the foundation for this strategy.

However, stocks are ultimately a game of human nature, and the economy itself has unpredictable elements. Black swan events can happen at any time and will inevitably occur.

If the correction’s timing or depth exceeds your plan, how should you respond? And if a black swan event occurs, what then?

3. Black Swan Events

The above correction classifications based on monthly and weekly levels are clear and standard, but even within the same monthly correction, the severity can vary greatly. For example, the 2008 financial crisis and the 2020 pandemic were more like economic crises than typical stock market corrections.

Therefore, market corrections can also be categorized by cause into three types:

1. Natural correction caused by excessive accumulated gains, with macro fundamentals still generally positive—most daily and weekly corrections fall into this category.

2. Corrections driven by overvaluation combined with economic recession or rate policy shifts—some weekly and most monthly corrections belong here.

3. Systemic risks causing economic crises or deep recessions—rare monthly corrections or prolonged bear markets, belonging to this category.

In the past 20 years, the 2008 subprime mortgage crisis and the 2020 public health crisis both fall into the third category: the former declined 58% over more than a year, the latter fell 35% in two months. These are beyond our typical bottom-fishing plans and require separate analysis.

However, crises and corrections initially look similar. When the U.S. stock market started declining in 2007, many believed it was just a recession. After the Fed began cutting rates, the market rebounded, and by early 2008, investors were rushing to buy the dip.

Therefore, during the bottom-fishing process, it’s crucial to observe whether new developments or worsening factors emerge that weren’t present at the start of the decline.

For example, recent deep declines—like a 27% drop in a year (a typical bear market)—are driven by macro logic: everyone discusses rate hikes, inflation is soaring, and monthly data worsens month by month. In such cases, the bottom-fishing may only be confirmed at the initial stage, and losses will be realized later. It’s a prolonged battle, requiring patience.

A sudden 36% drop in one month, triggered by an unexpected black swan event like the pandemic, is also possible. Such non-economic shocks cause short-term panic but tend to bottom out quickly. In these cases, patience is key.

The most challenging is the 58% decline during the 2008 financial crisis, which is a mixture of the two scenarios: a crisis event causing a deep recession. It’s unpredictable and requires careful response.

Looking further back, the dot-com bubble burst in 2000 was a rare case of a valuation-driven crash that also dragged down the economy. Valuations at that time were far higher than today. It was a recognizable “gray rhinoceros” event, but no one wanted to be the first to sell.

In summary, don’t try to predict U.S. stock declines in advance. The most important thing is to face reality and respond accordingly once it happens—because the sky won’t fall, and you can handle it.

Of course, avoiding expectations and reacting promptly and correctly after the fact requires you to stay attentive to the market. Unlike passive asset allocation, active management is necessary to assess whether the situation is evolving toward a crisis.