On June 13, 2022, the S&P 500 officially entered a bear market. Rising interest rates, high inflation, a slowdown in China’s economy, and the war in Ukraine are just some of the many factors that have caused stocks to drop 21% since their peak in January. This revelation is troubling for most people as many bear markets precede a recession, but it is especially troubling for those with investments in the stock market. Here, we explain the ins and outs of bear markets and what you should do with your investments.
What Is a Bear Market?
A bear market occurs when stock prices drop by 20% or more from their most recent peak. For the current bear market, stocks have dropped 21% from their peak in January, but this number can be much higher as the drop occurs over a sustained period, not all at once. Bear markets are often characterized by anxiety, pessimism, and low confidence in the economy, as opposed to bull markets which are characterized by high confidence in the economy and its strength.
What Causes a Bear Market?
Many factors can cause a bear market. Typically, a bear market occurs either before or after a recession, but not always (see more on this below). Investors always keep an eye on key economic factors such as hiring, wage growth, inflation, and interest rates to determine if the economy is speeding up or slowing down. Additionally, international events can play a role, such as the war in Ukraine and the current slowdown of the Chinese economy.
In our current situation, investors saw rising inflation and interest rates, as well as troubling news from overseas as signs of a potential economic slowdown. This caused them to start selling stocks, pushing the market lower and leading us into a bear market.
Are We Headed Towards a Recession?
Not necessarily. Historically, many recessions have followed a bear market. The Great Recession in 2007-08 followed a bear market, as did the economic downturn during the early days of the COVID-19 Pandemic.
But not everyone believes a recession will follow this one. This is because consumer spending is keeping pace, and unemployment is at a near half-century low. However, if investors keep selling and consumers stop spending, we could end up in trouble. Additionally, the Fed could be forced to constrict current economic growth due to out-of-control inflation. If the Fed goes too hard on inflation, it could lead to a recession.
How Long Do Bear Markets Last?
The good news is that bear markets tend to be shorter than bull markets. The average bear market lasts 363 days as opposed to 1,742 days for bull markets. The real challenge will be avoiding a recession, which is what makes our investment choices so important during the next year.
How Should You Invest During a Bear Market?
With stock prices dropping, your first instinct may be to sell before it gets any lower. This, however, could be a mistake (and could exacerbate the overall problem). While everyone’s investment situation is different, there are a few things you can do to minimize the damage and even come out of the bear market more economically sound than you were before.
Use dollar-cost averaging
Say one of the stocks in your portfolio was at $100 per share and has now dropped 20% to $80 per share. You may be tempted to buy more while the prices are low. However, in most cases this would be a big mistake. While the price may have dropped 20%, that doesn’t mean that’s the lowest it can go. It may drop 50% or more as time goes on.
Instead, you can use a strategy known as dollar-cost averaging. This is where you invest money over time in equal (or nearly equal) amounts. By doing this, you are smoothing out your purchase price over time. You won’t be spending all your money into a stock before it has dropped.
Diversify
In a bear market, most stock prices drop, but not all in the same way. One stock may drop significantly, while another will drop by just a few dollar amounts. You don’t know who will be the winners or losers in advance, so it’s always best to diversify your investments to protect yourself from big losses.
Invest in sectors that perform well in recessions
Not all sectors of the economy are hurting during a recession. In fact, some actually benefit from recessions. When looking at where to invest in a bear market, consider investing in specific sectors that perform well in recessions, thus stabilizing your portfolio.
Think long-term
Bear markets and recession talk can make even the most hardened investors nervous. But it is nothing that your investments can’t survive. While they may take a hit in the short-term, your investments will recover. As such, avoid making any short-term investment goals and instead start focusing on the long-term, such as your retirement.
First State Investment Advisors can help you navigate the current bear market and keep your investments secure. Contact us today to learn more.
This overview is for informational purposes only and is not a recommendation. It should not be the sole deciding factor in making an investment. Investing is a risk and, as with all risks, a positive return is not guaranteed. Past performance does not indicate future results.