An active market participant with a negative, pessimistic outlook on the market
A bear is an active market participant with a negative, pessimistic outlook. They act on their beliefs by either selling the shares they own while the market is perceived as high orthe risk of a market downturn using derivatives.
The ideology behind the term is from the positions they attack, swooping their claw downwards while hunting prey, resembling the direction a market moves when there is a bearish sentiment.
Oppositely, bulls attack upwards, playing on upward market movements when there is a bullish sentiment.
Such a market is established when more bears than bulls, such as a higher volume of sellers than buyers, driving the market's value down.
A fall of 20% or more infrom the most recent high is an institutionalized arbitrary depiction of when we have entered such a market.
A different interpretation is the movement of investors from riskier assets, in equity, to more secure investments, such as treasury.
Although treasury bonds are considered the safest investment option, as the US government backs them, they provide relatively low yields compared to emerging equity investments.
The 2020 coronavirus pandemic forced the government to respond to the forecasted weakening quantitative easing (QE)., providing stimulus relief and
The Treasury Bond market was isolated by the government's QE program introducing a flood of new money. This stimulated the economy, promoting riskier asset investments like cryptocurrencies.
This market may be followeddepending on the severity of economic or political circumstances.
A recession is two consecutive quarters of( ). GDP factors in consumer spending, , investments, and net exports.
Unfavorable conditions cause them to emerge, believing economic performance will be negatively impacted.
In the time leading up to a possible recession, stocks often trade at lower multiples, preemptive of economic or financial turmoil. These repercussions are factored into the market by selling stock consideredduring a crisis.
Events that may initiate this market include weak economic output, pandemics, fiscal policies, geopolitical crises, wars, sanctions, market bubbles, trade agreements, and many other detrimental factors.
They generally influence lower employment, productivity levels, disposable income, and business profits, all indicators of a poor time to invest in stocks.
Stages of a Bear Market
These markets can persist for months to years. The shorter-term market is referred to as cyclical, occurring more frequently. Alternatively, secular (long-term) bear markets can last for decades due to monumental financial events but occur less frequently than cyclical downturns.
Secular markets may rally between periods. However, there is no sustained growth able to reverse the call.
The sequence of a bear market is as follows:
- Initially, bullish sentiment is high, causing stock valuations to rise rapidly.
- This can create overestimations of a company's or stock's , meaning traders would maximize their profit by selling at this perceived peak.
- Stock prices begin to dive and consolidate at reference points, testing market sentiment.
- may start looking gloomy, maybe from a market bubble that's been growing.
- Prices start to fall dramatically as the turmoil is more visible, with panicked investors selling to secure their wealth, even if it may return a loss, in capitulation.
- Speculators enter the market at lower prices to acquire cheaper shares. However, they enter at various points, causing further consolidation to identify a trough.
- Eventually, the bullish market sentiment returns, and investors are attracted to the low stock prices.
A market correction should not be confused with a bear market. Instead, a correction is a downtrend influenced by a stock being perceived as overvalued.
Therefore, stocks were sold at a higher price and returned at a lower price. As a result, traders can more easily find a new entry price after a correction.
Price can drift between support and resistance lines,of the range.
A correction can transform into a bear market if circumstances worsen, such as a forecast displaying a reduction in growth or unpopular changes to the current business model.
Unlike during corrections, entry points within this market are much harder to calculate, as the bottom is less foreseeable.
The 2008 Financial Crisis
A growing housing bubble caused this crisis when it eventually burst in 2007. Mortgages and loans were actively credited toborrowers with no conventional repayment method.
Instead, the house boughtappreciated over time, allowing the homeowners to eventually sell it to pay back the mortgage and make a profit.
Financial institutions were capitalizing on mortgage-backed securities () and collateralized debt obligations ( ), placing the financial pressure of risky bonds in the hands of regular investors and some large banks, looking for a .
These securities were at the mercy of the housing market.
Eventually, interest rates rose, and the growth in the housing market began to slow. A wave of defaults left investors with significant losses, and the houses used as collateral were priced lower than the original mortgage, leaving owners unable to recoup their investments.
This spread worldwide, impacting the global financial market, requiring the government to bail out some of the biggest financial institutions, impose new financial regulations, and introduce monetary policies to stimulate recovery.
Consumer confidence was at an all-time low and had cascading effects as an exodus of investors withdrew their funds, initiating such a market for approximately 17 months.
The S&P 500 peaked at 1,565.15 points on October 9, 2007, and had plummeted to 682.55 by March 5, 2009.
The 2020 Coronavirus Pandemic
A sudden bear market emerged in February 2020 after Coronavirus had been classified as a global pandemic. As a result, new safety measures were imposed to prevent the virus from transmitting and spreading throughout the planet's population.
People were isolated in their houses, an unprecedented experience for most. This affected many businesses that relied on personal interactions.
The S&P 500 reduced to 2187.8 from recent highs of 3400, a downward movement of roughly 35%. However, government stimulus andmoney into the economy, providing financial aid and preventing economic contraction.
After introducing these new measures, markets rebounded, ultimately hitting new all-time highs due to the increased liquidity.
However, post-pandemic, the extensive measures to prevent a recession during the pandemic have dramatically increased the global supply of money.
Inflation has soared's 2% target rate, almost reaching double digits, causing the purchasing power of many currencies to decrease.
Central banks have acted by hiking interest rates, making debt more costly, thereby reducing the rate at which the money supply grows.
Simultaneously, supply constraints from the pandemic and Russia invading Ukraine have increased the cost of crucial commodities such as fuel, adding to inflation.
Businesses are anticipated to struggle under these, and investors fear an uncertain future.
Precautions to Take
If such a market emerges, we are most likely heading into a recession, the economy will slow, and unemployment may rise.
You may need to adopt a few precautionary measures to ensure you are financially secure during these uncertain times.
For example, accruing enough funds for at least six months worth of living expenses in case of potential work layoffs.
- High-interest debt - Rid yourself of any high-interest debt as interest rates could rise, further adding to the costs.
- Limit your expenses - Increased discretionary spending won't help make debt repayments. Therefore, you should only buy essential items.
- Wage increase - If the , you might consider negotiating a pay rise with your employer to ensure your wage is consistent. Although, be aware that an increase in payroll contributes to inflation.
- Diversified investment portfolio - The wider your range of sensible investments, the less impactful a bear market may feel compared to a portfolio of capital concentrated in a single risky asset.
- Dollar-cost averaging - Although the market may be declining, smaller regular investments every month instead of a single larger investment once a year may secure a lower average stock price in anticipation of a market rebound.
- Avoid risky assets - , such as cryptocurrencies, are more volatile due to lower liquidity and less security during economic unrest. Hence you can experience more dramatic losses.
when a trader expects the market to decline. It is a strategy used to gain capital from a declining market. Therefore, entering a very profitable before a bear market emerges.
Short positions can either be naked or covered. A" naked short" refers to selling a security without owning the actual security or borrowing it from a third party. It is illegal in the US to use this method of shorting.
A "covered short," the more common variant of the two, refers to temporarily borrowing stock from a stock loan agency, where the recipient must pay monthly premiums to possess the stock.
During this period, the trader would sell the stock at its highest price, expecting a return from a drop in its value. Then, they would have to buy the same amount of stock back from the market, hopefully at a lower price, to give back to the loaning agency.
The difference between the value the shares were sold at and the price they were bought back at equates to the return on the short position (excluding the fees for trading and borrowing).
Shorting comes with more risks than when buying stock, as, when buying stock, the most you can lose is all the money you have invested. This occurs when the company crashes, and the stock is valued at nothing, zero.
On the other hand, shorting has an infinite loss potential, as the stock price can continue breaking records if the company exceeds expectations. This can create an event known as a "short squeeze."
A short squeeze is where a short trader is pinched by an increasing number of buyers, leading to the stock price rising.
The higher the share price rises, the moreis required to keep the position open. If the investor runs out of cash to put into the account as a margin, they may be forced to liquidate other positions in the account or the short position itself.
To prevent a dramatic loss, the trader can repurchase the stock, which can cause the market to surge, depending on if the volume of stock purchased is large, commonly seen among institutional traders.
are alternative derivative contract securities that can be profitable during this market.
A derivative's value is based on the's characteristics (price, volatility, etc.). Put options enable investors to hedge risks that may devalue the return of their underlying long-term investments.
Put options contracts give the option buyer the privilege to sell shares (usually 100) at a predetermined price, known, before a set expiration date.
The price paid for this contract is known as the premium, which factors in:
- Extrinsic value - The value of the contract in relation to the underlying asset, i.e., the difference between the
- Intrinsic value - The value of more esoteric traits, like implied volatility. The variables that describe the inherent value of an option are known as the " ."
- Time value - The time available before expiration. Less time before expiration decreases the contract's value as it is less likely to experience a significant price rise.
Options are a less risky hedging, as you are not forced to exercise an option, limiting loss to the premium paid.
Inverse exchange-traded funds () are constructed using derivatives to profit from a decline in the value of the underlying asset, similar to short selling.
The difference between inverse ETFs and short selling is that ETFs do not require a margin account for transacting loans. As a result, the fees for holding a loan can be more costly when short selling, diminishing overall returns.
ETFs may only charge anservices using a single brokerage account, making it less costly to investors.
Inverse ETFs allow retail investors to be more involved in downside trading, with the capability of betting against a single stock or index ETFs. All this without the hassle of securing a loan of shares and managing other peripheral duties.
Leveraged ETFs allow a return on investment to be multiplied by using borrowed finance to increase the margin of trade. It can extend your profits beyond yourintensify your losses, so be sure to complete your .