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Bear market definition: what they are and how to invest during a bear market

A a bear market occurs when stocks are falling and sentiment is pessimistic.

Everyone knows that the stock market goes up and down. If you own stocks, you would probably like to see them go up all the time. Unfortunately, that is not how markets work. As buyers and sellers try to profit from their positions, there will always be a tug of war between the market being pushed up and pulled down. But what exactly is a bear market and, more importantly, can you make money in one?

Here is some bear market information that will help you clarify the term and give you some insight into how to react when a bear market arrives.

What are bull and bear markets?

Colloquially, “bull market” means stocks are rising and investors feel a sense of euphoria, while “bear market” means it seems like no one wants to hold stocks and prices tend to fall. . But Wall Street professionals usually have a more specific answer as to what bull and bear markets are.

What is considered a bear market?

Although there is no official scientific definition of what a bear market is, market professionals usually predict a bear market once major stock indices, such as the S&P 500, have fallen by 20%. from recent highs.

Typically, bear markets happen over a few months, in a slow and grueling decline, but such declines can also happen quite quickly. The bear market that coincided with the initial outbreak of COVID-19 in early 2020, for example, was the fastest on record, dropping more than 20% in just 19 days.

What is a bull market?

A bull market occurs when stocks make a sustained gain of 20% from previous lows. During a bull market, investors are optimistic and tend to buy stocks aggressively, which pushes prices up – the mirror image of a bear market.

Is a bear market good or bad?

A 20% drop in a few months can be alarming to some investors, but bear markets are part and parcel of a typical cycle.

When investors are optimistic about business and economic trends, they buy stocks until they start to think the stocks are overvalued. At this point, many sell their positions. Therefore, the market goes down. Once it reaches a point where investors see value again, they start buying and the cycle repeats.

The Positive Side

Whether a bear market is good or bad depends on how you position yourself. Is it good to buy in a bear market? If you’re a long-term investor, buying during a bear market is often a good thing. While it’s hard to bear the short-term pain of prices falling 20% ​​or more, if you can buy lower, the market is likely to pull back to new highs, which it did after each previous bear market.

Other investors who have sold stocks with the intention of buying them back later at lower prices also like bear markets because that’s when they can make money.

The negative side

But bear markets can also be bad because investing, by its very nature, is an emotional experience.

Some investors simply cannot bear the agony of seeing their individual stock positions drop by 20%, 50% or even more, and they end up selling very close to the bottom of the market. Then, when the markets reverse and start a new bull market, these investors are on the sidelines and miss the rally.

find a balance

No matter what type of investor you are, you need to be prepared for a bear market at all times. But if you tend to get emotional about stocks, put some protection in place so you don’t sell at the wrong time.

Set up automated investments so you always contribute to the market, even when your instincts tell you not to, and don’t look at your portfolio too often or you might make the wrong emotional decision.

What causes a bear market?

Bear markets are caused by a change in investor sentiment. This can have many causes. A weak business environment and low incomes in one or more sectors of the economy are a potential factor.

Emotional and psychological factors also play a role, such as the fear of some investors that they have not timed the market correctly, even though there is no hard evidence to support this opinion.

What to look for

Signs of an upcoming bear market aren’t always easy to predict, although there are a few things to look for. These include recoveries that don’t last very long or sustained weakness in major economic indicators. Exogenous factors, such as the COVID-19 pandemic and the Russian invasion of Ukraine, are also often triggers for a bear market.

Bear markets frequently occur before or during a recession. As the stock market is a forward-looking mechanism, it often predicts a recession, especially since economic reports are lagging indicators.

Does a bear market mean a recession? Sometimes, but not always. According to CenterPoint Securities, eight of the 11 bear markets since 1948 have been followed by recessions, with the period between a market peak and the start of a recession averaging seven to eight months.

What is the difference between a bear market and a correction?

A bear market and a market correction have a lot in common. Essentially, a bear market is a more intense correction. While a bear market is generally defined as a drop of 20% or more, a correction is a drop of at least 10%.

How often do corrections and bear markets occur?

Corrections are normal occurrences and should occur approximately once every two years. According to data from Yardeni Research, there have been 39 corrections in the S&P 500 since 1950, and they have occurred every 1.9 years on average.

In contrast, bear markets occur roughly every 3.6 years. This means that while bear markets are not daily occurrences, from a long-term perspective they occur relatively frequently.

How long do corrections and bear markets last?

Since corrections are less intense than bear markets, they also last for a shorter period of time. While the average correction lasted 189 days, according to Yardeni Research, the average bear market lasted about 19 months, according to LPL Research.

However, long-term averages can be misleading and bear markets have been trending shorter and shorter. The last three bear markets, in 2011, 2018 and 2020, have only lasted an average of 4-5 months.

What are the phases of a bear market?

It is helpful to consider bear markets in phases to understand their trajectory.

Bear market phases

  1. The first phase of a bear market can be a little disappointing as it is marked by bullish investor sentiment and rising stock prices. This marks the final gasp of the bull market and the beginning of a transition into a bear market. When the bull market runs its course, the bear market begins.
  2. The second phase is the decline that occurs when investor sentiment turns negative and selling begins. Selling can be slow and controlled, or it can be accompanied by panic selling.
  3. The third phase is characterized by speculators entering the market and starting to pick up bargains.
  4. Phase four, the final phase, is the bottoming process, when selling gives way to buying and the bear market turns bullish again.

One of the worst mistakes an investor can make is believing that stocks are just going up. They don’t. Stocks will go down and bear markets will occur. The best thing to do is educate yourself on the basics of investing and be prepared for the downs and ups.

The essential

Bear markets disturb even the most experienced investors. When the stock market as a whole is down more than 20% and individual names are down 50% or more, it can be easy to believe that everything is going to zero and the whole financial system is going to collapse.

But as the old Wall Street axiom goes, the time to buy is “when there’s blood in the streets,” which is when things look as bleak as possible. If you find yourself in a bear market, stick to your long-term investment plan, grab some bargains, and try to keep your emotions to one side.

It may take months or even years, but eventually the market will likely recover and reach new highs, rewarding those who have been patient.

Karen Doyle contributed reporting for this article.

This article originally appeared on Bear market definition: what they are and how to invest during a

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