Jan 26th, 2008
Working Backwards: What’s a Correction?
A stock market correction is a relatively short lived (a few weeks to a few months) and dramatic price decline that interrupts an upward trend in the stock market. A correction is often defined as a drop of between ten and twenty percent from a market high. A drop in excess of twenty percent is typically considered a bear market.
The difference between a bear market and a correction is in its severity and length. It is believed by some that a correction can be a predictor of a coming bear market; it is usually only possible to tell the difference between the two in hindsight. Corrections can help to restore health to an overly stressed stock market by bringing prices and therefore price to earnings ratios down, allowing investors interested in value a buying opportunity.
Currently, the stock market is in correction territory with the S&P 500 being 15.6% off of its all time high reached on October 9, 2007, just a few months ago. Whether or not we have entered a bear market remains to be seen. If this is indeed a correction (it does meet the criteria of dramatic
and short, although it must reverse relatively soon to be considered short enough to be a correction), the market may soon start taking off again. If it’s more than a recession–a bear market–we may be in for quite a bit of pain for some time to come. Only time will tell.
