What Is a Fire Sale?

A fire sale consists of selling goods or assets at heavily discounted prices. Fire sale originally referred to the discount sale of goods that were damaged by fire. Now it more commonly refers to any sale where the seller is in financial distress. In the context of the financial markets, a fire sale refers to a situation where securities are trading well below their intrinsic value, such as during prolonged bear markets.

Key Takeaways

  • A fire sale refers to the selling of a security or other product at a price that is well below market value.
  • In the financial market, stocks or other securities are often available at fire-sale prices because the company issuing them is in deep water financially.
  • In some cases, an individual stock might be in good shape but is available at a discount because the whole sector that it is part of is under duress.
  • Investors that buy stocks at fire-sale prices are counting on them to rebound later, making it crucial to pick stocks of companies that are primed to recover.

Understanding Fire Sales

A fire sale can be an opportunity for investors. Securities that are on fire sale may offer compelling risk-reward payoffs for value investors since further declines in these securities may be limited and the upside potential could be quite substantial. The challenge for investors is making the decision to purchase securities during a fire sale.

When the market is having a fire sale on stocks, for example, it means that the overall market sentiment is that it is a bad time to own stocks. Buying when the rest of the market is selling requires investors to have a contrarian streak in them. A broad fire sale of stocks is rare, however, and usually only occurs during times of financial crisis.

More commonly, a particular sector like healthcare stocks or oil and gas services will see a fire sale due to some broad news that negatively affects that sector.

332%

The percentage that the broad S&P 500 has rallied since the lows of the 2008-2009 crisis, representing an amazing opportunity for investors who bought in at fire-sale prices; on March 9, 2009, the S&P 500 closed at just over 676, while on August 21, 2019, it closed at just over 2,924.

Determining Fire-Sale Prices

While there are no fixed valuation metrics that indicate when a stock is trading at a fire sale price, it may be considered to be at such a price when it is trading at valuations that are at multi-year lows. For example, a stock that has consistently traded at an earnings multiple of 15 could be at a fire sale price if it is trading at an earnings multiple of 8. Of course, this assumes that the business fundamentals for the stock are still relatively unchanged and have not deteriorated markedly.

A Fire Sale Versus a Sector-Wide Correction

A fire sale is generally seen as a buying opportunity by investors taking a historical perspective. For example, some of the best deals in a generation came in the depths of the 2008–09 financial crisis where solid banking and consumer stocks dropped well below their historical valuation.

There is, however, a real risk that a fire sale may be the result of a sector-wide correction that will be long-lasting and perhaps even permanent. The oil price collapse of 2014 is an example where many stocks directly in oil extraction or heavily leveraged to it fell below historical averages and lingered there. If an investor bought in at that point, thinking they were getting in at fire-sale prices, they may have ended up disappointed, since the sector has not snapped back in the aftermath.