Bull versus bear market: what’s the difference and what to do with them? - March 25, 2020

Bull versus bear market: what’s the difference and what to do with them?

Bull market, bear market – as investment professionals, we use these expressions almost every day in our lives. We also often mention them on this blog. But what do these expressions mean and where do they come from? What to do when one or the other comes? It’s time to find out!

In short, bull market means that sentiments are positive on the market, and investors are expecting gains and strong results. Bear market is the opposite: during bearish times, investors expect prices to go down.

Why are they called bull and bear market?

The answer might be more blatant than many expect. The names come from how these animals attack: bulls thrust their horns up in the air, bears swipe down their paws. This movement reflects the movement of the markets themselves.

How do they decide which one is it?

The most common way to decide if a market is bullish or bearish is the 20% rule. If a market gains 20% during a period, it’s a bull market. If the market falls 20%, it’s considered a bear market. The important thing to see here is that the growth (or fall) doesn’t have to be constant: small fluctuations are tolerated.

Or as Investopedia puts it: “the most common definition of a bull market is a situation in which stock prices rise by 20%, usually after a drop of 20% and before a second 20% decline”. So these market sentiments are longer periods of time, usually.

What to do about bull or bear markets?

It’s not easy to predict which sentiment will take hold of the market, and mostly bull and bear markets are only named after they’re obvious enough. Generally speaking, the best an average investor can do is to stay calm during their predefined portfolio period. A common investment strategy during bear markets is to rebalance portfolios and repurchase stocks. This might be counterintuitive, but as the most commonly used investment strategy goes: buy low, sell high. A bear market is the time to buy for many.

What will happen next?

As we underlined it above, it’s hard to know when things will turn around exactly. That’s true both for bull and bear markets. Although there’s one important thing to know: so far markets always went higher than they were before. Just look at the state of stocks after the 2008 financial crisis:

S&P 500 between the financial crisis of 2007-08 and 2020's peak

Click on the image to see it in full resolution

If we look at the chart above carefully, we can see that during the financial crisis of 2007-08, S&P 500 halved its value. Nonetheless, it went back higher than ever before, showing that the darkest days of the crisis were a great market entry point: in just five years (common length for an average investment plan) someone could have doubled their money between 2008 and 2013.

Corrections are still scary, though

As we wrote in our post “Think, not panic about market corrections”, we know that situations like this might be scary. This is not an uncommon thing to feel. But Charlie Munger, long-time partner of legendary investor Warren Buffet has a particular viewpoint on this. When he was asked if he’s worried about shares falling 50%, he answered: “this is the 3rd time that we’re seeing our holdings at Berkshire go down, top tick to bottom tick by 50%. It’s the nature of long-term shareholding … that the long-term holder has his quoted value of a stock go down and then by say 50%”.

He doesn’t stop there with his answer, and shows how often these corrections are: “In fact, you can argue that if you’re not willing to react with equanimity to a market price decline of fifty percent two or three times a century, you’re not fit to be a common shareholder and you deserve the mediocre result you’re going to get”.

Tough, but rather professional words.

Disclaimer: This analysis is for general information and is not a recommendation to sell or buy any instrument. Since every investment holds some risk, our main business policy is based on diversification to minimize threats and maximize profits. Innovative Securities’ Profit Max has a diversified portfolio, which contains liquid instruments. This way, our clients can maintain liquidity, while achieving their personal investment goals on the long term.