What’s a Bear Market?

What’s worse than getting chased by a bear? 🏃‍♂️💨 🐻

For most people, not many things come to mind. However, if you’re an investor, a bear market might make the top of the list.

Luckily though, a bear market doesn’t actually involve any aggressive animals, but—it definitely feels similar to getting attacked! ⚔️

A bear market is when the stock market experiences price declines for an extended period of time, and sometimes they can last days or even years. As an example, the covid-19 crash caused companies all over the world to lose millions of dollars in a single day—and some still haven’t recovered.

Naturally, times like these are scary for any investor—no matter what type of investments you may hold. And unfortunately, there is no way you can actually prevent one from happening. Rather, as an investor, you need to do all that you can to learn about how to properly prepare and handle a bear market—as you would an actual bear in some mountain forest.

But there’s still good news: Just because a bear market is generally considered bad for an investor, this doesn’t mean that it isn’t possible to make money during one—if you know the tricks of how to do so. Some assets and strategies simply perform better in bear markets. 

Navigating a bear market can be difficult and intense even for the most seasoned investors. So keep reading to learn more about how a bear market happens, what you can do to properly prepare, and how you can still make money—even if the outlook seems bleak. 

Bear Market Definition 📚

It is commonly known that a bear market is when prices on the stock market experience a decline for several days. But how many days and how steep of a decline in price must there be to qualify as a bear market?

In general, a bear market is when prices drop 20% or more from their most recent high point. This doesn’t have to happen all at once, it just has to happen over a relatively short period of time—this means that a bear market could happen over the course of a couple of days. This drop is usually accompanied by negative feelings towards the market by investors. 

A bear market specifically applies to the market as a whole and therefore is derived from looking at the S&P 500 or the DOW. But, occasionally, the term ‘a bear market’ may be used when just a single stock declines by over 20%.

Bull vs. Bear Market ⚖️

If you’ve heard the term bear market, then it is highly likely that you have also heard someone speak about a bull market. It’s important to note, however, that these are two completely different things. 

A bull market—the most common state of the market—is the opposite of a bear market. During a bullish period, prices increase by 20% or more over a short period of time. This rise is also typically accompanied by optimistic feelings from investors as they watch the value of their stocks rise. Additionally, bear markets tend to be more brief affairs, lasting an average of 363 days while a bull market typically lasts 4-5x as long. 

Because bull and bear markets are such drastic occurrences, the stock market doesn’t always have to be one or the other. Sometimes it can be something in between. When a stock falls in price, but not drastically enough to be labeled a bear market, it is known as a correction. It is possible that a market can experience several corrections yet still not have prices drop enough to be considered a bear market. 

What Causes a Bear Market? 🤔

The prospect of your stocks dropping 20% (or more) is a scary thought! This is why it is important to know what causes a bear market and the signs that you should be on the lookout for. 

Although certain historical events are frequently tied with causing bear markets, the true spark that sets them off is investors feeling overall pessimistic about the market. When this happens, large investors will tend to sell off large portions of their portfolio which in turn causes stock prices to drop. 

So when you refer to the cause of a bear market, you are often referring to the event which caused investors to feel negatively about the market. This can be anything from a current event to a government regulation change, or even rumors of a global event—although aggressive central banks are usually one of the main culprits. 

Causes of some of the most recent bear markets include the discovery of the irresponsible lending practices in the housing industry (2008), the revelation that several of the companies on the stock market has little to no business plans (2000), and dropping oil prices coupled with rising unemployment rates in response to a global pandemic (2020). 

All of these events, when they happened, caused the investors to feel pessimistic about the future of their stocks, thus they began to withdraw them in droves to eventually create a bear market. It is almost impossible to predict how long a bear market will last. 

The Phases of a Bear Market 🪜

When a bear market occurs, it is typically marked by phases. And it is important to know these phases so that you can have a general idea of where the market is at, and when you can expect it to possibly recover. And to give you a better idea of how these four phases work, they will be explained along with the example of where they could be seen during the 2020 bear market. 

Phase 1️: 🎬

Prices are generally high, and investors feel very good about the market. So good, in fact, that they begin to cash out their profits because they believe the market to be at an all-time high. They may also withdraw based on rumors of coming events. 

During January and the beginning of February 2020, investors had just experienced an all-time high Christmas season, only to watch as countries like China and Hong Kong began to lock down as a result of the COVID pandemic. As global trade began to decline, and rumors of lockdowns in the US began to rise, investors began withdrawing their investments. 

Phase 2: ️️*️⃣

The stock prices begin their initial fall. While this may be a slow start, many investors will see the small dip, coupled with the rumors of events that will affect the stock market and begin to panic sell. When a bunch of investors begin to panic sell, this only drives the price down even lower, until the stocks enter free fall. This phase is often called capitulation. 

In the days leading up to February 19th, 2020, people began to panic even more as additional countries announced lockdowns and global trade came to a standstill. Many investors began to panic sell, causing prices to fall, until February 19th when the stocks had officially fallen 20% from the recent price highs and the market was officially a bear market. 

Phase 3: 🧮

Because the prices are now so low, as a result of the previous capitulation, some tentative investors begin to re-enter the market. This will help to steady the fall of some prices, possibly even raising them a bit as trading volume once again begins to rise. 

From February 19th, 2020 until mid-March, no one knew how the pandemic was going to affect the United States. When it finally arrived on US soil and spiked massive lockdowns on March 15th, people began to realize that even with the lockdowns, life, and business would still go on as normal. This led to a few investors beginning to purchase stocks, limiting the free fall of the market. 

Phase 4: 🔢

The fourth and final phase is where the free-falling of prices has finally come to a rest, and investors are once again attracted to the market. This final phase, if enough investors are re-drawn to the market, can transform a bear market into a bull market. 

By March 23rd, 2020, the US stock market was no longer in free fall as people began to realize that the lockdown was actually beneficial to several businesses. This inspired investor confidence and the outlook of the bear market of 2020, which had only lasted 33 days, began to turn around into a bull market. In total, the market fell 33% percent during the bear market of 2020. 

How to Prepare for a Bear Market 🎚️

Now that you are aware of what a bear market is, and the events that lead to one, it’s time to discuss what you should do to prepare your portfolio for a recession if you believe that a bear market might be imminent. That being said, it is impossible to precisely time a bear market, no matter how much you may try to do so. 

Instead, your investments should constantly be in a state that if you were to encounter a bear market, they may be damaged, but not too badly. You can do this in several ways, and what you ultimately decide to do to prepare for a bear market will depend on your investing style and portfolio. 

Be Diversified 🗂

It’s been said before not to ever put all your eggs in one basket, and this also applies to the world of investing in the stock market. If you do decide to put all your money into one stock, for example, Apple, this could be disastrous even without a bear market—as that particular stock could crash and a lot of your money would evaporate instantly (for a while at least).

Rather, you should try to be equally invested in several different projects. This way, if one happens to experience a decline in price, you won’t be financially ruined. And as you are looking for stocks to diversify your portfolio, you should also think ahead to purchase stocks that could survive a bear market. 

For example, people will always need groceries, paper towels, toilet paper, and other necessities. Therefore, these might be some good stocks to buy in the case of a bear market like the one in 2020. Additionally, people will always experience illness so healthcare may be another good direction to invest your money. 

On the same note, you shouldn’t only invest in stocks that will weather a bear market—as these stocks may not have a stellar performance during a bull market. You should aim to have a portfolio that has stocks that perform well both in a bear and a bull market so that your entire portfolio is never at risk. 

Have Cash On Hand 💵

It can be tempting to invest all of your money in the stock market—especially when the market is doing well. This can come back to bite you during a bear market, however, so it is always good to have a fair amount of cash on hand. 

One of the reasons you should always keep cash on hand is because when prices start to fall, you may be tempted to join the crowd and begin to panic sell. This is a problem though because a bear market is the worst time to sell your investment. Having extra cash on hand will make a bear market less scary and ensure you can still afford bills when the times get tough—no need to sell your stocks cheap to get on by. 

Not only that, but if you don’t need the money (as in, you have a day job) then you can use this cash to buy high-value stocks when they are affordable. This will help you to make more money when the next bull market does come. 

It is also worth noting that not all bear markets are as brief as the one that hit in March 2020. And sometimes a high period of unemployment will come after a bear market. This means you’ll want to have some savings on hand on the off chance that you lose your job. 

Be Prepared Psychologically 🧠

The hardest thing about investing is watching your investment go down from time to time. And bear market or not, this will happen. Therefore it is in your best interest to mentally prepare yourself now for your stocks to take a dip. 

Most people believe that the minute their stock begins to lose value, that it will instantly go to zero. Thus they will begin to sell their stocks for cheap the minute the market looks slightly grim. This is irrational investor behavior as most stocks almost always return to their bull market prices following a bear market. 

This is why you should do your best to mentally prepare yourself for the possibility of a bear market, and remind yourself not to panic sell. After all, what goes down must come back up. 

Invest in Recession-Proof Assets 💸

As mentioned above, one of the best ways to weather a bear market is by getting stocks that are unlikely to be affected by a bear market. But because it can be difficult to select stocks that will survive a bear market, you should also consider investing in non-stock options. 

These include gold, bonds, and other assets like some cryptocurrencies, that tend to experience a surge when panic hits the public—or rally like champs after a crash. This causes all of those people who just sold during the bear market to suddenly rediscover assets that they believe are safer during a bear market. 

Having some of these on hand before a bear market hits can help you to still be making money, while the rest of the world is running around in fear. And while others are buying these in panic, you will be able to sit back and watch your money grow.

What Investments Do Well in Bear Markets?

Believe it or not, there are several investments that investors swear by that actually perform well, even in the middle of a bear market. And if you manage to include some of these assets into your portfolio, this can help you to make money even when the market is down. 

A shining example of this is Charles Ellis, who invested in several of these stocks, keeping his portfolio overall profitable over the past 50 years during various bear markets. That is something that only few investors can brag about, but it is definitely not impossible.

Inverse ETF’s 📊

Inverse ETF’s are just what they sound like—they are ETF’s that rise in value each time the market falls in value overall. This means that for every 1% the market decreases in price, the value of this ETF will increase by 1% (more or less).  This is very similar to shorting a particular stock, except you are effectively shorting the market as a whole instead. 

Do note that Inverse ETF’s are not meant to be long-term investments, and because of the frequent trading involved in its maintenance, the expense ratios for this type of ETF can sometimes exceed 1%.

Shorting Stocks in a Bear Market 📈

Shorting a stock is a way to make money on the stock market when you are sure the price of a particular stock will decrease. This makes it a viable option when you find yourself in a bear market. 

When you short a stock, you borrow it from a broker and sell it at the current market price. Then, later, when prices have decreased, you purchase the stock back at a lower price and return it to the party you borrowed it from. 

For example, say you borrow 10 shares of Stock A, which is valued at $50 a share. You sell them immediately to make $500. Then later, when Stock A has decreased to $40, you buy it back for $400 and return the shares. You have officially made $100 by shorting Stock A. 

If this is so great, why isn’t everyone doing it? Well, that’s the problem. Shorting stock is extremely risky, as you are basically betting that the stock will decrease—but you don’t know that it will for sure. 

One example of when this backfired on investors was in January 2021 when Redditors found out various hedge funds were shorting GameStop ($GME) stock. These Redditors began buying the stock in mass, causing the price to rise. 

This forced the companies shorting the stock to have to buy $GME at increasingly higher prices to return the stock where it belonged. Several hedge funds had such large shorts on $GME that they ended up going bankrupt. This is why you should be extremely careful when shorting stocks, and you should not engage in this practice unless you are a seasoned investor. 

Although this story is the one that made national headlines because of its dramatic rally, things like this can happen quite frequently. And it isn’t always just one stock, sometimes bear markets can experience a sudden spike in activity that is very difficult to predict as well, causing investors to lose a significant amount of money if they are shorting one, or numerous, stocks.

Bonds and Gold 🪙

Bonds are very secure stores of value because unless a government collapses, a bond should always hold value. And gold is secure in much the same way—but with the added quality that it is considered valuable in almost any country on earth. 

Because they are so secure, when the stock market starts to fall into a bear market, many of the investors that are panic selling will take their money and put it right into bonds and gold. This means that the value of these commodities might actually increase during a bear market. But either way, the value of bonds and gold usually holds steady regardless of what is going on in the market. 

The problem with bonds and gold, while they do hold value, even during a bear market, is that they typically don’t grow in value by a large percentage. Therefore it is a good idea to have bonds and gold make up some of your portfolio, but not too big of a portion because the stock market will outperform them in most bull markets. 

Cryptocurrency ₿

Over the past couple of years, cryptocurrency has come to be a major player in the financial world, and part of the reason this has happened is because they showed interesting results during the 2020 crash—Bitcoin fell with the markets but rallied more quickly and aggressively.

When the government is printing a lot of money following a crisis (i.e the COVID19 Pandemic) this can lead many investors to feel skeptical about the fiat money they hold that was issued by said government and lead them to want to put it into a different asset instead. In some cases, this asset was cryptocurrencies, causing them to perform well when the rest of the stock market is experiencing a downward trend. 

This isn’t always the case though, and sometimes cryptocurrency can mirror the stock market and fall at the same time. But unlike typical stocks, cryptocurrency has historically bounced back much more quickly and at a greater rate than the stock market—however, keep in mind that we only have a few years of historical data to analyze. 

How to Invest During a Bear Market 💰

If the bear market has already hit, it’s a bit late to prepare for it, but there are still investments that you can purchase during a bear market that may do well. This isn’t the same as preparing for it, and investing during a bear market is much riskier than preparing for one. 

One mistake that many new investors make is that they keep waiting for the market “to hit the bottom” which is when they plan to buy in again. It’s important to know that you cannot time the bottom of the market, no matter how hard you try. 

If it is a bear market, and you see a stock that you’ve researched, which you want to invest in at a historical price low, then it’s likely a good time to invest. Just know that the price may go even lower before it goes up again and that you need to buy and hold the stock long-term. This is positive long-term thinking and tends to have better results than trying to time the market. 

You may also be drawn to other investments like bonds and gold during a bear market. While this isn’t a bad idea, you should be cautious as some of these investments, like gold, can often be overpriced during a bear market because the demand is very high—making this a bad investment in the long term. 

Historical Examples of Bear Markets 🎯

Sometimes, it can be easier to understand what a bear market is, and how it works, by looking at recent examples. Below are explanations of the three major bear markets which have hit the market in the last couple of decades. 

The Dot-Com Crash 💥

Right at the turn of the century, the stock market entered a massive bear market because of over speculation. This resulted because as the internet began to rise to prominence from 1994-2001, many people began investing in it blindly, not taking the time to research the company and its profitability before they tossed in their money. They were so afraid to miss out on a good investment that several people invested in anything and everything that ended with a .com. 

This resulted in several internet companies becoming overvalued very quickly. And when people realized there wasn’t anything backing these high valued stocks in the year 2000, the prices entered freefall, dropping by 52% and into the first bear market of this millennium. 

The price fall didn’t end there, however, as the terrorist attacks on September 11th, 2001 added fuel to the fire of skeptics who doubted the market. And on October 9th, the NASDAQ closed at 78% lower than it did in March of 2000. 

But by 2003, many companies were forced to merge to stay afloat, and those that weren’t profitable had to exit the market—otherwise known as declaring bankruptcy. By the end of 2003, the reformed companies began to bring in their first profits, helping to end the bear market as prices of stock began to rise once again. 

The Great Recession 📉

Although the millennium got off to a bad start, many were positive about the future until the Great Recession that hit the stock market in 2008. This recession was a bear market like no other, turning princes of Wall Street into paupers. 

This all started because, in the years leading up to 2008, many lenders began to relax their strict lending regulations. This meant that many people could get home loans and open credit cards even though they couldn’t afford them. And because everyone was suddenly able to get a loan, prices of homes began to rise—leading to people taking out even bigger loans that they couldn’t afford. 

Meanwhile, on the back end, these loans were being edited and sold to investors who had no idea of the actual terms of these loans. But no one cared because the market continued to soar and investors continued to make money. This began to backfire in 2007 when the housing market started to slow. 

The bear market caused by the great recession started on September 29th, 2008 when the DOW fell 777.68 points which was a 14% drop in a single day. Prices continued to fall, and by November 20th, they hit an all-time low at 33% lower than their high earlier that year. But this wasn’t the bottom yet. In fact, prices would continue to fall until 2009—and this is the time when gold reached its highest growth in years.

This caused a spike in unemployment, and many people found themselves owing more on their homes than what they were worth. Thus foreclosures swept the nation and many found themselves homeless. 

Several companies that had been doing well during the easy loan period, such as car companies, found themselves with inventory they couldn’t sell and employees they couldn’t pay, leading to the government bailout of several large companies. 

Even if you weren’t affected as a homeowner, many people had their retirement savings invested in the housing market and the loans that were sold to investors. Most of these people lost a large percentage of their savings. Many had to delay retirement, and some still haven’t recovered. 

COVID-19 Crash 😷

After the 2008 crash, things were once again looking up as the stock market reached all-time highs during the early months of 2020. This was despite the fact that many were aware of a new ailment that was circulating in China in late 2019. But because it didn’t seem that serious, investing continued as normal, until February 20th. 

On February 20th, many cities and states around the world began looking at widespread lockdowns as a way to control the virus that was quickly sweeping all nations around the world. As trade contracts were paused, or canceled, between countries, investors started to sell off their investments for fear of what was to come, and prices began to fall.

This price decline continued until March 23rd when the market closed at a record 30% lower than its high in February. This was a record because never before had a bear market been entered so quickly. The market would continue to fall to a total of 33% lower than its high before investors would once again be able to see the end of the pandemic and begin buying stock once again. 

The bear market of 2020 was short, but its implications reached much further than almost any other bear market in history. Many oil companies, when faced with the fact that people no longer had any reason to drive, had a surplus of oil. This was so bad, that at one point during the pandemic, oil was priced at -$40 per barrel. 

But it wasn’t just the oil companies that suffered. Many entertainment companies, such as Cirque Du Soleil, were prohibited from putting on shows. Most didn’t have any other way to make money, and they had to file for bankruptcy. Restaurants were in the same boat. Those that couldn’t offer to go service had to shut their doors and lay off all of their employees. This resulted in an unemployment rate of almost 15% in April 2020. 

Again, as they did in 2008, the government had to come to the rescue and produce bailouts for companies that saw their income evaporate overnight. This included airlines, entertainment companies, and personal services like hair cuts and massage services. As of July 2021, some companies still haven’t recovered. Many restaurants and entertainment venues closed permanently. 

Conclusion 🏁

Although bear markets are a scary topic in the investing world, the first step to surviving a bear market is to learn about what it is and what you can do to properly prepare for one. It’s unfortunate that you can’t predict when a bear market will hit, and if history has shown anything, it’s that a bear market can come from anywhere, at any time, and it can affect anyone. And sometimes, these effects can cause problems in society for decades. 

You may not be able to predict a bear market and that is why you should do your best to always maintain a diversified portfolio that contains at least some bear market resilient investments. This way, whether a bear market hits tomorrow, or maybe ten years from now—you and your portfolio will be ready to weather the storm. 

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