You already own it. That is the version of the falling-knife problem nobody writes about, and it is the one Spencer Jakab takes on this weekend. The Wall Street proverb tells you not to catch a plunging stock. It says nothing useful about what to do when it is plunging in your account.
Adam Parker’s team at Trivariate Research looked at thousands of sharp drawdowns over 25 years, leaving out pharma and biotech, where a single approval headline can do anything, and skipping the panics of 2008 and 2020. The findings are worth taping to the monitor.
Three findings
First, stocks that fell hardest relative to their own industry tended to underperform by nearly 9% over the following year. The knife does keep falling — sometimes.
Second, the reason matters more than the size. Only 36% of peer-relative plunges were earnings-related, and those are the ones that stick. A company that just told you its business is worse than you thought is a different animal from a company caught in a sector rotation. The October 2023 GLP-1 scare is the textbook case: Coca-Cola (KO), PepsiCo (PEP), Yum Brands (YUM) and Mondelez (MDLZ) all fell between 6% and 15% in a few days on the theory that weight-loss drugs would end snacking. Every one recovered by year-end. Utz, the potato-chip maker, bounced 42% from its low. This February’s software selloff on AI coding fears was, in most cases, a similar gift.
Third, cheapness helps. Value stocks — the cheapest fifth by forward price-to-earnings — enjoyed some buoyancy after a big drop. The stock that was already priced for trouble has less room to be disappointed.
Why this is hard
Jakab is honest about the behavioral trap. We dread further losses, and we anchor to an old price that has stopped meaning anything. Hedge funds solve this with stop-loss orders, which have their own cost: they lock in the panic and then watch the rebound from the sidelines. If falling stocks reliably kept falling, shorting every one would be a sure thing, and it isn’t.
Our read
This is the same discipline this desk published as the guidance rule for the fourth quarter: a name that cuts its outlook gets sized down that day, on a rule, not debated in a meeting. Trivariate’s data is the reason the rule keys on guidance and not on price. An earnings-related drop against peers is the one with a 9% tail. A drop that came with the whole market, or the whole sector, is usually an argument for patience, and sometimes for a purchase.
Two of this week’s biggest movers are a live test. Oracle (ORCL) is down 24% this year and on our watch list because of a concentration question, not an earnings collapse. Home Depot (HD), profiled elsewhere in this edition as the best-performing stock of the last 45 years, is down nearly 13% this year with the housing market, not with its own execution. Neither is a buy on this data alone. Both are the kind of decline the research says to think about before selling.