Don't Panic Over Panic Selling: MIT Researchers

Cost of Panic Selling

Conventional wisdom states that panic selling leads to large losses, and of course it can. But in the study of 296,556 household brokerage accounts between 2003 and 2015, it found that timing is everything.

As the authors state, "calculating the opportunity cost of panic selling over time finds that panic selling is suboptimal if executed in an improving market, but it is beneficial as a stop-loss mechanism in rapidly deteriorating markets."

Further, performance also depended on when the investor exited, and the duration of the exit.

For example, in its hypothetical study, it found that an investor who liquidated at the beginning of the financial crisis and left the market for 15 months at that time "saved himself from losing another 17%. Holding out for more than 34 months after liquidation, however, would have caused the investor to miss the post-2009 market rally and forgo potential profits."

The researchers found that investors who made panic sales "achieve only a slightly negative return after they liquidate." Also, in contrast to overtrading, "investors who made panic sales did so infrequently."

Finally, the study concludes that the negative connotations of "panic selling" may "not always be warranted. While panic selling in normal market conditions is indeed harmful to the median retail investor, freaking out in environments of sustained market decline prevents further losses and protects one's capital."