A bear market traditionally defined as a period of negative returns in the market averaging around 20% or more. During this period, most stocks see their share prices fall, often substantially. Generally, bear markets happen in conjunction with economic recessions or depressions, when pessimism prevails.
In the view of some economists, bear markets are simply a natural correction to the unfettered, over-exuberance of bull markets and the imbalances that occur due to changing corporate earnings, consumer demand and regulatory changes.
You may not like it, but think about what happens if your stock portfolio tanks 20% or even 40%. After you’re done finding some wood to knock on, you can evaluate how did that make you feel and what would you do in such a situation?
If you periodically do this exercise during “good” times, when a bear market really occurs, you can hopefully be spared from raw panic and instead execute pre-conceived plans with a level head.
Profiting in a Bear Market
Both bear markets and bull markets present investors opportunities to make money.
While the economic climate might have changed, the fundamentals of good investing practices still apply, such as being clear about your investment objectives, managing your risk, and not being unduly swayed by fear and greed. You’ll just need to adjust your portfolio mix in view of the changing economic climate, and have even greater self-control.
Managing Your Exposure
Certain sectors would certainly be hit harder than others when the market is turning south, such as companies competing in the consumer discretionary spending sector, including travel, entertainment, and retail businesses.
You may choose to reduce your exposure to these stocks, since the first step towards making profits is to minimise your losses. Otherwise, you’ll be handicapping yourself and have a harder time recovering.
During a downturn, it is also a common practice to rebalance your portfolio by increasing the percentage of bond and cash holdings, since those asset classes allow you to minimise your potential downside as you position yourself to best take advantage of an eventual recovery.
Go On the Defensive
Defensive companies are usually large corporations with a long track record. The logic is that having successfully weathered crises in the past, they would also have the resources and resilience of doing so again. They are also usually in businesses that have inelastic demand, where people will need to continue using their products and services, irrespective of economic conditions.
Examples of defensive stocks include Singtel (SGX: Z74) and Sheng Shiong (SGX: OV8), since people will still need to use mobile phone services regardless of the market, and the same goes for daily necessities.
Find Good Stocks to Buy at Great Value
The American investor Shelby Cullom Davis famously said: “You make most of your money in a bear market, you just don’t realize it at the time.”
The logic is simple: the cheaper you purchase stocks, the higher your future rates of return will be when they recover. This is also true for dividend yield. In fact, with prices being low, you’re able to buy more of a stock with the same amount of money.
Even though stocks fall in price across the board in a bear market, good companies eventually recover and continue growing, while bad companies might never quite return to their “days of glory”.
If you have money stashed away, a bear market presents a great opportunity to invest in equities while stocks are on “sale”.
Look for Good Dividend-Generating Stocks
When you buy certain stocks, you receive dividend payouts based on the company’s profits over the course of the year.
Companies with strong fundamentals that are still paying dividends are thus pretty attractive, even if the stock price hasn’t exactly recovered to pre-bear market levels.
Bear Markets Encourages Forces Good Habits And Make You A Better Investor
A bear market also presents investors with opportunity to witness (if you’re not invested) or experience (if you’re invested) how markets respond to a bear market, and the many moves financial institutions and countries make in such a period. This front row seat allows you to gain unique insights that will help you be a wiser, more rounded investor.
If you did lose money because of the onset of a bear market, you probably won’t be making the same mistakes again in future, such as settling for lower quality stocks, not being truly diversified, or choosing to overpay for certain assets. You would likely have much deeper understanding compared to someone who has only been through “good times”. This will place you in good stead in your lifelong journey of building a sustainable and healthy investment portfolio.
When Things Turn Around
While the cyclical nature of economics mean that bear markets are inevitable, remember that so are recoveries. So if you’re going to retire ten years from now (or more), a bear market shouldn’t make you worry too much. How you finish the marathon is much more important than the day-to-day fluctuations of the market.
The stock market is driven by sentiments and expectations, so everyone will be watching economic indicators like GDP growth, inflation rates, employment figures, and interest rates.
Once you see the light of market reversal at the end of the bear tunnel, take comfort in knowing that armed with your recent experience, you and your investments are better-prepared for whatever that might come your way.