Investors are well-aware that a bull market occurs when stock prices rise, and a bear market occurs when stock prices fall. However, what exactly is a bear market, and how can you recognize one? Find out what a bear market is and why it happens. We’ll also look at some other vital aspects that all investors should be aware of before making a purchase.
? What Is a Bear Market?
During a bear market, prices drop steadily over time. As a result of widespread pessimism and poor investor sentiment, the price of assets generally falls by 20% or more from previous highs.
Individual stocks or commodities might be considered to be in a bear market if they experience a fall of 20% or more over just a sustained period of time—typically two months or more—instead of just the entire market or index.
When the overall economy is experiencing a downturn, such as a recession, bear markets may be present.
? How Does a Bear Market Work?
A fall in the stock market generally precedes or follows the start of a recession.
To determine whether the economy is slowing, investors pay close attention to important economic indicators such as hiring, wage growth, inflation, and interest rates.
Some of the markers were different in the COVID-19 pandemic. Many signs pointed to a deteriorating economy, including widespread closures, a rise in jobless claims, and a rise in social inequality.
Investors anticipate lower business earnings while the economy is decreasing.
As a result, they liquidate their holdings, driving the market lower.
A downturn in the market can increase unemployment and make economic conditions more difficult.
Bear markets, on average, last 363 days whereas bull markets, on the other hand, last 1,742 days.
According to data gathered by Invesco, bear markets have average losses of 33% while bull markets have average profits of 159%.
A couple of weeks after the coronavirus bear market began on March 11, 2020, it went into a bull market phase, although the entire economic impact of the virus has yet to be known.
? Bear Market Characteristics
A bear market has the following characteristics:
- The mood among investors has shifted from optimism to pessimism. It’s time to liquidate existing holdings or stop making new ones all together. As a result of the increased supply of shares, prices have fallen.
- The value of a company’s stock is dwindling. Because of their lower stock values, publicly traded enterprises have a lower total value.
- The mood among investors has shifted from positive to negative. As a general rule, investors believe that the market has peaked and won’t be appreciating soon. Treasury bills and investment-grade bonds are popular choices for investors looking for stability.
- Companies have less money to their names. Investors have lost faith, and consumers are buying less as a result. The earnings and profits of corporations are declining or remaining stable. As a result, companies are forced to lay off workers, reduce production, and reduce spending on R&D.
- The economic downturn is becoming more widespread. There is a greater chance of deflation when money grows tighter. The economy, markets, and production are all dead.
- There is a change of direction. Conditions have deteriorated to their lowest point. Reduced interest rates encourage consumers to borrow and spend more.
? How to Invest in a Bear Market
Most investors fear bear markets because they make it more difficult to make money when they occur.
Nevertheless, if you can wait until prices rise, you won’t definitely lose money. Although this may take some time, the waiting game itself can be excruciating.
Other tried-and-true strategies for surviving a bear market include:
1. Dollar-cost averaging can be your ally if used properly
If the price of a stock in your portfolio falls by 25%, from $100 to $75 per share, then your investment is a loss of $25.
The temptation to acquire additional stock when you think the price has fallen is great if you’re an investor with some spare cash.
The problem is, you’re almost certainly going to be mistaken.
That stock’s price may not have fallen to $75 a share as previously thought; instead, it may have fallen by as much as 50% or more from its recent high. Picking the bottom of the market or “timing” it is, however, a risky enterprise.
A more smart option is to contribute money to the market on a regular basis using a technique called dollar-cost averaging.
Dollar-cost averaging is the process of investing money in about equal amounts over time and over a long period of time.
In this way, you can avoid investing all of your money in one stock at a time when its price is soaring (while still taking advantage of market dips).
Bear markets can be frightening, there’s no denying that, but history shows that the stock market will eventually recover.
Bear markets can present fantastic buying opportunities for equities at cheaper prices if you change your mindset and concentrate on prospective profits rather than losses.
2. Diversify your holdings
Buying stocks at a discount is a great way to increase the diversification of your portfolio, whether or not the market is in a bear market.
During a bear market, the stock prices of all companies included in an index, such as the S&P 500, decline, although not always by the same percentage.
That’s why having a well-balanced investment portfolio is so important.
If you have a mix of successes and losers in your portfolio, you can keep your overall losses to a minimum.
If only you knew who was going to win and who was going to lose ahead of time.
Because economic recessions tend to precede or coincide with bear markets, investors may choose assets that provide a more stable return during these periods, regardless of the state of the economy.
3. Put your money in sectors that will do well in a recession
When the market is in a recession, seek for areas that do well to add some stabilizing investments to your portfolio.
Things like household staples and utilities are more resilient in bad markets.
Index funds and exchange-traded funds (ETFs) monitor a market benchmark and allow you to invest in certain sectors.
You will gain exposure to companies in the consumer staples industry, which is more stable during recessions, by investing in an ETF that tracks it.
To have a more diverse portfolio than a single stock, consider investing in an index fund or exchange-traded fund (ETF).
4. Think long-term
Market recessions put investors’ resolve to the test. Even if these times are terrible, history shows that the market will rebound quickly.
For long-term investors — like those saving for retirement – bear markets will be dwarfed by bull ones.
Stocks should not be used to fund short-term ambitions, such as those you intend to achieve in five years or less.
Although it’s difficult, avoiding the urge to sell stocks when the market is down is one of the smartest things you can do for your investment portfolio.
It’s possible to have a robo-advisor or a financial advisor handle your investments for you if you can’t stay away from them during a bear market.
? How to Take Advantage of a Bear Market
Don’t panic. It’s possible you’ll feel pressured to liquidate all of your assets at once. Instead of selling your entire portfolio at once, consider selling 10 percent at a time and reevaluating your holdings every time. Bear markets since 1966 have lasted an average of 17 months, while bull markets have lasted an average of 75 months.
Don’t stray from the basics. A company’s worth often remains stable if it has paid a dividend in previous downturns or provides goods and services that people require even when the economy is bad. You could even go up a notch.
Take a look at the current bargains. Buying at the bottom of a bear market is ideal for finding a deal. Companies with solid foundations may see their stock prices temporarily lowered or even cut by the claws of the bear. By purchasing them now, you’ll have them when they go back up.
Don’t get your hopes up about the potential for huge profits. During a bear market, it’s tempting to make investments that are too hazardous, seeking under every rock for assets that will pay off handsomely – or so you hope. Focus on risk and make sure you know exactly what you’re getting into before you invest.
✨ Bear Market Example
Markets go through periods of decline pretty frequently. There were 33 of them since 1900, averaging one every 3.6 years. Three recent prominent cases are as follows:
- 2000-2002 Dot-com crash: Due to the increasing use of the internet in the late 1990s, technology stock prices experienced a large speculative bubble. After the bubble broke, all of the main indices slid into bear market territory, but the Nasdaq was particularly heavily hit: By the end of 2002, it had plummeted 75% from its previous highs, according to the data.
- 2008-2009 financial crisis: When subprime mortgage lending went into overdrive and was packaged into investable securities, a global financial crisis erupted. To keep the United States’ banking system from collapsing, a large number of banks failed and huge bailouts were required. The S&P 500 had plunged by over 50% from its prior highs by the time it hit its March 2009 lows.
- 2020 COVID-19 crash: The global spread of the COVID-19 epidemic, which caused economic shutdowns in the majority of wealthy countries, including the United States, set off the 2020 bear market. Since economic uncertainty spread so quickly, the stock market fell into a bear market at the beginning of 2020 in a manner unprecedented in history.
? Bottom Line
When the bears show up on Wall Street, no one is happy, but it is an unavoidable aspect of the financial environment.
They can be painful, but they can also lead to a necessary amount of time for the stock market to calm off.
They also assist in distinguishing between investments that are actually valuable and those that were artificially inflated during the bull market.
❓ You Might Ask
1. How can I tell when a bear market is coming?
Even though bear markets appear clear in retrospect, it’s important to remember that the benefit of the doubt never goes away. No one can tell when a bull market or a modest correction has ended and you’re entering one. It’s difficult to know when the stock market has peaked and you’re about to enter one. Investors, on the other hand, follow a set of guidelines.
Interest rates are a good indicator of whether or not a bear market is about to begin. It’s a solid sign that a bear market could be coming if the Federal Reserve reduces interest rates in response to a faltering economy. In certain cases, a bear market begins prior to a decrease in interest rates.
2. What’s the difference between a bear market and a bull market?
During a bear market, stock prices fall by at least 20%, while during a bull market, stock prices rise by at least 20% Bull markets promote an upward spiral because investors are overconfident, rewarding even mildly excellent news with higher stock prices.
3. What’s the difference between a bear market and a market correction?
Market corrections, which are often 10- to 20-percent-drops in stock prices, are referred to as bear markets because of their size and ferocity. The time it takes to make a correction is usually quite brief. The S&P 500 experienced six corrections during the bull market from 2009 to 2020.
Although corrections can turn into bear markets, this is not always the case. Only four of the 22 market declines that occurred between 1974 and 2018 converted into bear markets.