In trading, a market correction is when the price of a financial instrument declines from 10% to 20% of its highest recent price. In finance, market corrections can also be known as technical corrections. Market corrections occur when the price of an asset becomes overinflated from its actual average value, unexpectedly causing investors to sell it off. Market corrections can happen for the price of any asset type traded, such as stocks, indices, or foreign exchange markets as examples. The timeline of a market correction can vary, with the shortest being days and the longest typically for 3 to 4 months.
A market correction can begin based on many different factors, with the majority of them being macroeconomic caused by an economic downturn, natural disaster, or political event. In addition, when it comes to market corrections for stock prices, they can be caused by internal issues such as organizational restructuring, or mismanagement, or negative press of the company.
Market corrections are often unpredictable to traders, and can cause severe losses and uncertainty to short term investors. To prevent this, traders can set stop-loss or stop-limit orders to limit their losses. Investors and analysts can look at historical data of previous market corrections and adjust their trading plans accordingly. Technical analysis can allow traders to understand overinflation within a market as it is occurring and predict market corrections before they happen.