How Investors Can Navigate and Avoid Panic Buying and Selling

Panic buying isn’t just confined to the stock market (the same goes for panic selling). As the COVID-19 pandemic illustrated, panic buying—and a related phenomenon, shortages—can happen with most any commodity or product: toilet paper, disinfecting wipes, face masks, pork chops, or something else consumers decide en masse they absolutely must have, whether motivated by fear or some other emotion.

For individual investors, it’s a good idea to learn to recognize when panic buying or panic selling situations might be developing and take steps to avoid or protect against such situations, said Shawn Cruz, senior market strategist, TD Ameritrade. Major financial panics are scattered throughout market history, but panics also happen on a smaller, less noticeable scale and can take different forms in different markets. There’s often a common denominator: fear.

Here are a few points on panic buying and panic selling as applied to investing.

1. Panic Buying and Panic Selling Are Primarily Driven by Human Behavior

Panic-driven buying often results from current scarcity or perceptions of scarcity of a product or service—the hoarding of toilet paper during the early days of the pandemic last year is a recent example. “This type of panic can persist even when nobody can remember its initial causes,” wrote fund manager Joe Wiggins on his blog “Behavioural Investment” in March 2020. “It feeds on itself.”

Scarcity, or perceptions of scarcity, is also at work in the financial markets. Although a certain asset or security may not be scarce, features of it may be: for example, the ability to buy or sell it at a certain price, or at any price. “An assumed or real limit on the ability to sell can induce panic—like the shout of ‘fire’ in a packed theater, we fear that the exit may not be available to us all,” Wiggins wrote.

“Panic buying and selling is always about how we react to the behavior of others (and how they react to us),” Wiggins added, citing the “wisdom” of crowds as one dynamic.

2. Panic Acts Differently in Different Asset Classes and Markets

Panic buying is often associated with commodity or commodity-type markets, where “bad” news like a drought, hurricane, or shipping disruption might send prices for grain or crude oil soaring, Cruz noted. In commodities, the trigger for a price rally could be a shortage, but it could also be a mismatch in supply and demand that will eventually work itself out. Many economists believe the latter dynamic is happening at a wide scale as the economy recovers from the pandemic, spurring sharp upturns in demand for many goods and services while the supply side still lags.

By contrast, “bad” news in equities—say, lower-than-expected quarterly earnings or a potential bankruptcy—often drives share prices down.

“In those sorts of situations, the market is absorbing a big breaking piece of information quickly, on the fly, basically,” Cruz explained. “In equities, you have a lot of risk on one side, with most people in equities generally on the long side, with exposure on the downside. If investors see bad news, there’s a tendency to sell in greater numbers.”

In a large-scale panic, people look for safety and may be inclined to sell anything that’s exposed to the economy, Cruz said. As a market moves lower and lower, turning into a broad-based sell-off, it builds on itself as people grow increasingly fearful of additional losses.

3. Panic Buying Is Different from Panic Selling

Spells of panic buying typically aren’t as pronounced as panic selling, Cruz commented. Buyers may drive up a stock price to the point where it’s overdone or not justified by a company’s fundamentals, and then there’s a pullback or a correction/consolidation phase.

Panic selling, by contrast, is often fast and furious and sometimes even historic. The 2008 financial crisis, 1987 Black Monday, and October 1929 market crashes are a few extreme examples of panic selling, and the bursting of market bubbles, at an immense scale.

Fear or risk aversion are usually factors in both types of market-related panic, Cruz mentioned. “Panic buying often reflects a ‘fear of missing out’ (aka FOMO) mentality versus a fear of actual loss that drives panic selling, which is going to be a much stronger than FOMO. That’s why usually you’ll see those panic-selling-driven sell-offs more pronounced than panic buying.”

4. Try to Avoid Getting Sucked into Any Panic Modes While Looking for Opportunities

A panic-driven sell-off in a stock or the broader market may pose opportunities to buy a stock at cheaper levels and apply dollar-cost averaging, or to buy shares in small chunks on a regular basis, regardless of price, according to Cruz.

“Often, these big down moves get overdone,” he said. “That’s where a gradual, sustained investment approach can make sense. So, even if you hold a certain stock and took losses on a sell-off, as long as you’re using dollar-cost averaging, you can use pullbacks to your advantage. Pullbacks tend to be short-lived and often reverse themselves.”

Dollar-cost averaging involves investing a fixed dollar amount in a fund or stock on a regular basis in such a way that more shares are bought when the price is lower and fewer are bought when the price is higher. The goal is to have a lower average purchase price than would be available on a random day.

5. How to Spot Signs of Panic? Watch VIX, Treasury Yields, & a Few Other Numbers

The Cboe Volatility Index (VIX), aka the fear gauge, is one widely followed measure of the stock market’s relative calm or skittishness. Based on the implied volatility of S&P 500 Index (SPX) options, the VIX is the market’s collective estimate of how much the price of the S&P 500 might move up or down over the next 30 days.

If the VIX spikes above 25 or 30, “that means there’s a greater amount of fear across the market,” Cruz explained. For most of 2021, the VIX has traded below 25, aside from a few brief jumps (it was around 15 in late June). Investors can also keep an eye on the 10-year Treasury Yield Index (TNX) or other Treasury rates. In periods of elevated volatility, Treasury yields often drop as investors seek safer assets (yields move in the opposite direction of bond prices). Also, watch long-term 100- and 200-day moving averages on daily price charts to get a sense of whether a stock has broken a trend or is starting a new one.

Bottom Line on Panic Buying and Panic Selling

Panic buying and panic selling have always been a part of the financial markets and always will be. For individual investors, it’s always critical to keep your emotions in check, understand your risk tolerance, and stick to your long-term plan as much as possible, Cruz emphasized. Perform regular portfolio “checkups,” make sure you’re properly diversified, and ensure your investments reflect your time horizon.

As Wiggins, the fund manager and blogger put it, panic buying and selling represent “the very worst” of our investment behaviors. “We need to avoid such behavior, but telling ourselves not to engage in panicked decision making doesn’t work,” he wrote. “We need to take concrete steps to avoid it.”