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Bear Markets Explained
When people speak of a "bear market," they mean a period of months or years
during which the stock market declines by 15% or more. We haven't heard much
about bear markets in the last few years, because the U.S. stock market has been
performing so well (a "bull" market). For almost a decade, the market has enjoyed an
unprecedented period of rising prices, hefty profits and general excitement which
has, for the most part, kept the bears hiding in their caves. Still, recent declines have
led some analysts to predict that we could be entering a bear market. Unfortunately,
many investors (even those who have been in the market for ten years or more) lack
the perspective that comes from experiencing an extended down period in stocks.
During a bear market the bears rule, and bulls don't stand a chance. There's an old
saying that the best thing to do during a bear market is to play dead - just like you
should if you met a real grizzly in the woods. Fighting back would be very dangerous.
By staying calm and not making any sudden moves, you'll save yourself from
becoming a bear's lunch.
Bear markets can provide great opportunities for investors, the trick is to know what
you are looking for. Beaten up, battered, underpriced
What is a bear market and what causes it?
By definition, a bear market is when the stock market falls for a prolonged period of
time, usually by twenty percent or more. It is the opposite of a bull market. This sharp
decline in stock prices is normally due to a decrease in corporate profits, or a
correction of overvaluation (i.e., stocks were too expensive and fell to more
reasonable levels).
Investors who are scared by these lower earnings or lofty valuations sell their stock, causing the price to drop. This causes other investors to
worry about losing the money they've invested, so they sell as well; the vicious cycle begins.
One of the best examples of a prolonged bear market is that of 1970's when stocks went sideways for well over a decade. Experiences such as
these are generally what scare would-be investors away from investing. Ironically, this keeps the bear market alive; because no few buyers are
purchasing investments, the selling continues.
How does a bear market affect my investments?
Generally, a bear market will cause the securities you already own to drop in price. The decline in their value may be sudden, or it may be
prolonged over the course of time, but the end result is the same: the quoted value of your holdings is lower. This leads to two fundamental
principles:
