The Market is Bearish: what does this mean?
You do not encounter bulls and bears in the same place often, but these animals are constantly used to label the sentiment of the stock market. Whether investors are optimistic or pessimistic, the investor’s confidence has a great influence on your portfolio and it is time to take a closer look at the bull and the bear market, the factors, and the relevance for your investing strategy.
Bull markets take place when the broader stock prices increase at least 20% since the previous market downturn. In this optimistic environment, the economy is thriving, interest rates are low, unemployment is low, and investors are buying and holding onto securities. Investor confidence is high and expectations are that strong results will continue.
If the broader stock market falls 20% or more and keeps trending lower for a sustained period this is called a bear market. This often occurs in periods of economic slowdown, declining GDP, higher interest rates, and higher unemployment. Investors often move to safer securities and/or sell their investments to hold onto cash.
Why a Bull and a Bear
The general conception is that the origins lie in how a bull and a bear attack. A bull thrusts its horns up into the air, reflecting an increase, while a bear slashes its paws down displaying a decline.
Stock market performance: a bullish stock market gains market value even with temporary market corrections along the way. On the contrary, a bearish stock market loses or holds value after a market decline.
GDP: in a bull market the revenue of companies is increasing and wages are increasing, which enables an increase in consumer spending, enforcing companies’ earnings. This causes growth in Gross Domestic Product. On the other hand, what is typical of a bear market is a decline in a country’s GDP when sales of companies are slowing down, wages are stagnant, and the consumer saves more and spends less. Bear markets are therefore associated with economic recessions and depressions.
Unemployment rate: as bear markets are associated with recessions and depressions, a rising unemployment rate is common. Higher unemployment rates prolong a bear market since fewer people having an income leads to a decline in consumerism and thus a reduction in corporate revenues, which can further enforce layoffs. Au contraire during a bull market where businesses are growing and attracting employees, which leads to an increase in consumerism and corporate profits.
Inflation rate: when economic activity is increasing rapidly then this could go hand in hand with a rising inflation rate, as high demand for products and services can cause prices to rise, as we see happening now. A shrinking demand during a bear market can cause the opposite: deflation.
Interest rates: an environment of low-interest rates generally reinforce bull markets as companies can borrow cheaper money to grow further. High-interest rates tend to slow the growth of companies and are associated with bear markets.
Three Strategies for Bull and Bear Markets
1. Buy and sell
One strategy to invest during bull and bear markets is to buy stocks early on in a bull market and sell them when they reach their peak and just before they plunge into a bear market. At the depths of the bear market, you can hop back on for the bull ride, this will get you the most out of your investments, right? While in theory, this would work perfect, in practice it is practically impossible to time the start and end of a bull market.
The biggest danger here is to make financial decisions based on emotion, as investors are typically bullish in a bull market and expect that the markets will continue to rise. Sometimes taking on more risk than would be sensible. In a bear market, the stock market is going downwards where investors are acting on fear and selling their positions.
2. Diversify your portfolio
In case you’re interested in hedging risks and less volatility, then a well-diversified portfolio could be a well-working strategy for you. Allocating a portion of your portfolio to real estate and growth stocks may be smart if the stock market is bullish and prices are inflating. If the stock market is bearish, then you may consider extending your positions in value stocks, gold, and/or adding bonds to your portfolio or even cash out a portion. You can also consider geographically diversifying your holdings to benefit from bull markets occurring in other countries.
3. Long-term investing
While it’s important to be aware of the market sentiment, it’s near impossible to predict the exact moment of transition from a bear market to a bull market and vice versa. While riding a bull market is OK as your investments generally go up in value, a bear market is more subject to fear and your mentality. Your investments will benefit from investment decisions based on rationale. A long-term strategic asset allocation may be sensible to manage market changes while receiving a return on your money, without having to worry too much about your portfolio on a day-by-day basis. Besides, bear markets often create buying opportunities for your portfolio.
How you invest during bull and bear markets depends mainly on your time horizon. If you’re an investor for the long term with a diversified portfolio, then it matters little in what state the market is currently in and you probably shouldn’t change your investing strategy based on a bullish or bearish market.
Throughout history, after every bull market comes a bear market that follows a bull market again. One of the worst stock market crashes in US history occurred during the 2008 financial crisis, which also delivered the longest bullish sentiment in the US stock market history and extended until the pandemic in 2020. Over the long term, the stock market is resilient and has gained value with a few pullbacks along the way. In that sense, the bulls are prevailing. A well-diversified portfolio with companies that have great business fundamentals is likely to produce significant returns for your portfolio over time and can help you achieve financial success.