Heading for a Bear Market? Here’s How To Tell the Signs and What Investors Need To Do
Two predatory animals roam the concrete jungle. You can find them, among all places, on the global stock exchanges. They are the creatures of habit that thrive on opposing scenarios in the exciting world of the stock market. The bull and the bear symbolise the group of investors. It also describes the market sentiment.
When you talk of market trends, a bull market is the period of prosperity. The bulls take center stage. Traders make hay while the sun shines. But when the bears come knocking, investors shiver.
Many fear the bear market. Investors should know how to tell signs when the market is headed in that direction. And more importantly, know how to react decisively.
The fear of a bear market
Usually, the cycle of a bull market is long. Based on historical data, a bull market occurs every 3.4 years on the average. During this period, investors are jubilant because there are plenty of opportunities to gain rather than lose.
But the recent bull market in the U.S. stock market defied all norms. It has experienced the longest bull run that began in March 2009. Being the largest stock market in the world, global exchanges including the Singapore Exchange (SGX) are influenced by the events at Wall Street. Market volatility became invisible and the bears around the world went into hibernation.
However, the bears awoke after 9 long years. On February 8, 2018, the Dow Jones Industrial Average fell by more than 1,000 points within a span 4 trading sessions. The stocks of the mighty large-cap tech companies began to decline by more than 20% which is uncharacteristic. Risk factors in the U.S. stock market is showing.
Although it’s not a considered a crash, the correction seems to indicate the market is headed to a bear market. Naturally, the bulls are the optimistic lot. Their positivity is anchored on strong economic growth, a healthy labor market, low inflation and interest rates, and high GDP. There is no official declaration of a bear market but risk factors in the U.S. stock market are showing.
The characteristics of a bear market
The ferocious bear uses its strength to cut down its opponent to size. In the stock market, the bears are the exact opposite of the bulls. Pessimism pervades and they anticipate a market decline where stock prices are heading down.
This characterises a bearish market. By U.S. stock market standards, the cycle is of a bear market is shorter compared to a bull market. The average duration is 403 days. But the period can be painful and harrowing for stock investors. Nonetheless, the setting is perfect for the bulls.
Market correction or pullback market is a natural occurrence in the stock market. Stocks prices drop and languish at low levels but only for days or weeks. But when the stocks or the stock market index drops by 20% or more, market analysts deem it as technically bear territory. In all likelihood, it signals the beginning of a bear market.
“Bear markets have many definitions, though most observers agree that a drop of 20% from the prior peak counts as one,” says TJ Tan from DCG Capital. “The reason we try to identify one is so that investors who take a bearish view, can move into safer instruments and thus avoid the “large” drop that is coming. The problem is that most market participants recognize a bear market only after the drop has occurred.”
What to do in a bear market
- Do not panic
The advice of people who encounters a fierce grizzly bear in the wild is not to fight back. Remain calm and make no sudden moves. That applies in a bear market. The moment you are overcome with panic, you’re likely to incur losses by making hasty selling decisions.
- Understand that it is a business cycle
A bear market is just one of two business cycles of the stock market. The situation is not rosy but you need to survive or ride it out. Economic problems, geopolitical issues, and lately trade disputes would go and come.Market volatility will be ever present but you can expect the stock market to exhibit resilience. Stock exchanges in Asia which are composed of emerging markets have pulled through, time and again.
- Revert to industry fundamentals
Seasoned stock traders know how to play the game. Follow their lead and go for defensive stocks if you want to continue trading. Defensive stocks are the stocks of companies that continue to sell goods or services. They can endure in a weakening economy. Sometimes, defensive stocks can even outperform a bear market.Buying blue-chip stocks is a clever option. Stick to the elite companies that can withstand economic slumps and periods of uncertainty. Many investors consider them rock-solid securities for a long-term hold.
- Learn to manage your cash position
In a bear market, you should learn to manage your liquidity. It is advisable to adjust your portfolio mix. Consider investing in safe investment outlets in the meantime. Look for investment instruments like bonds that can generate fixed income. Settle for moderate returns while waiting for the bear market to end. Your cash position is protected not disrupted.
The bear market is inherent in the stock market
Always keep in mind that stock investing is not without risks. You either gain or lose depending on your chosen strategies. But just like the bull market, the bear market is a repetitive business cycle which is inherent in the stock market.
Smart investors have the innate talent to predict market changes regardless of trend, but they can also be wrong.
Sean Cheng, Portfolio Manager of Providend, recommends investors invest some of their funds into the market to hedge against being wrong. “Investors need to be open-minded to the possibility that they could be wrong, because there is a huge opportunity cost to being wrong if it means that they are looking to sell everything and hold cash,” Cheng said.
“I know of people who have been absolutely bearish on the market for the last seven years – and they have missed out on seven of the best years to compound their money. And it’s because they were so closed-minded to the possibility that they could be wrong about the market.”
In fact, Young Soon Jey, Investment Advisory Director, iFAST Global Markets, thinks the current Goldilocks economy will continue for the rest of 2018. “A prerequisite for a bear market is that recession risks must be high. US Fed Reserve is expecting only a 7% chance of a recession in the US in 12 months’ time. Also, the yield curve is not expected to invert any time soon.”
“This suggests that a recession is still some time away. Corporate earnings outlook remain robust. The 1st quarter US earnings season saw 81% of companies reporting positive earnings surprises and 86% of companies seeing actual earnings growth. Previous market melt-downs like the ‘dot.com’ crash and the subprime crisis were all accompanied by a sharp widening of credit spreads. Today, US high-yield credit spread barely moved. Default risks remain low.”
“Equities and corporate debt will still be highly sought after. So investors should continue to take opportunities during dips and ride on this moderate economic growth,” says Young Soon Jey, Investment Advisory Director, iFAST Global Markets.
“Rather than splitting hairs about whether a bear market is due or not, we should consider the market indicators of risk and position our portfolios accordingly,” suggests TJ Tan, CFA, DCG Capital. DCG Capital manages the DCG Asia Value Fund. Learn more about the fund here. “Steve Einhorn has a short checklist for market downturns. His indicators include problematic inflation; a hostile Fed; prospects of recession; investor sentiment; valuations. He would be more worried if all 5 indicators were flashing red. Currently, we’re at about 2 out of 5, and a bear market appears relatively unlikely compared to other historical periods.”
As such, Tan recommends investors “stay invested in liquid instruments” and “be willing to enter the market when stocks appear overly depressed”.