Why will buying in dips will lead to great financial gain?

Before going deeper into the workings of the stock market, we must understand the cyclicality of the economy and historical boom-bust periods. Over the course of the last hundred years, the stock market and surrounding economy has been hit by a recession around every 10 years. In 2019, the stock market had been on the longest upward trend ever, with several economists predicting that it would go higher. However, in February 2020, world economies started to realize the effects of COVID-19, and a recession followed. Stock markets around the world fell. Over time, the market has regained significantly, however, underlying macroeconomic indicators still need more time to solidify. While this global event could have been unnerving for new investors, one must realize that on the larger scale, these bull-bear cycles are normal. 

Timing the market

It goes without saying that if you invested in reputable companies during a recession and took advantage of undervalued stock, you could see immense growth in your portfolio once the recession ends and economic growth restarts. The problem with this strategy is that while it sounds great in theory, it is incredibly difficult to appropriately time the market. The stock market is essentially a reflection of consumer sentiment towards the economy and the respective companies. Predicting that sentiment can be extremely hard due to several qualitative factors coming into the picture. The irrationality of humans is displayed during market panics and mass sell-offs, where investors start dumping their positions due to fears of a crash, which in turn leads to further deterioration of prices and the overall stock market. Therefore, understanding the macroeconomic indicators of an impending recession is crucial, as it is the closest one can get to explaining market downturns on paper. For instance, one can look at the yield curve for government treasury bonds to get a better sense of the market sentiment towards the federal reserve as a borrower. In 6 out of 7 historical recessions, the yield curve has correctly predicted a crash. 

Buying the dip

While it is unsustainable and dangerous for retail investors to buy and sell at daily trends on the market, if your research makes you believe that we are about to enter a recession, it would make sense to divest from your stock positions. If you prove to be correct, you should focus on investing in companies that you think will survive the recession and might grow beyond it. For instance, if you bought shares of companies like Hertz and McDermott International at the beginning of the COVID-19 induced market crash, you would have lost significant amounts of money since both of these companies went bankrupt. Since recessions drastically increase the risk of bankruptcy for several companies, you should study the financials of the stocks you see as undervalued and be careful in investing your money in risky positions. If you do manage to buy cheap stocks in a safe company that leaves the recession intact, you can sell it down the line to realize massive profits.