For investors, the stock market can be both a wondrous and a stressful thing. During bull markets (when markets are generally rising over a span of multiple years), investing can feel rewarding as your account value may rise with stocks in general. On the other hand, bear markets (fundamentally driven stock market drops of 20% or more over an extended period) can be terrifying.
Scary events can lead to ghost stories. In this case, that means many investors have a tough time shaking some myths about bear markets. And if you believe some of these myths and take action in your portfolio based on them, it could be costly. In this article, we'll address some common bear market myths and the realities that contradict them.
When the market drops suddenly and sharply, cries of “bear market!” are usually soon to follow. This isn’t totally illogical—sharp declines and bear markets often go together. However, bears almost never start this way. Most sudden and steep drops signal short-term market corrections, in which we recommend investors stay invested because they are nearly impossible to time and end as suddenly as they begin. These corrections are a normal, healthy part of a bull, and jumping out of the market at every sign of turbulence in a bull can be extremely costly.
Bear markets, on the other hand, can often be slow moving at first, so we believe it is best to wait until after you very sure and have fundamental proof a bull has peaked before going defensive.
Most of the time, bull markets end when they reach the top of the proverbial "Wall of Worry." When markets reach the top of this wall, investors become euphoric and bid stocks up regardless of deteriorating underlying fundamentals. The bull market then rolls over slowly and investors may see the new bear as a buying opportunity for stocks rather than the onset of a downturn.
The other way a bull market can end and a bear market begin is what we call the “Wallop.” The wallop is a big negative event that no one sees coming and knocks trillions of dollars off of global GDP. Said simpler, massive size and true surprise are key characteristics of a wallop, which makes them rare. So be careful in trying to identify wallops, especially based on market performance. Usually the sharpest, deepest bear market drops happen near the end when investor sentiment is bleakest and the majority of market losses have already occurred.
Though panic during bear markets can make you want to flee from stocks, the risk of missing the initial rebound can be even more crippling than the bear market itself. It’s tough, but remember to think long-term.
Bears are taxing on investors. When you invest, you may feel the pain from losses more than you feel the benefit of gains. In behavioral finance, this phenomenon is called myopic loss aversion. It can make bears seem like irreparable and crippling events, but in reality, long-term investors can typically handle bears so long as their emotions don’t get the best of them.
Fear of losses, while a natural response to negativity, often causes investors to make emotional, irrational decisions that can hurt them much more than enduring a bear market might. For example, if the stocks you invest in are down a lot during a bear, you could end up selling to save what you have. However, you could be selling near the bear’s low—a costly mistake, locking in losses.
If you have a long investment time horizon (the amount of time you need your portfolio to last) and goals requiring equity-like growth, a bear market doesn’t change the types of assets you need over the long term for your goals. What investors fear is being in a hole they can’t escape. But remember, over the long term stocks generally rise, even after bear market losses.
Throughout history, stocks have fallen—sometimes very far—then recovered and hit new highs again and kept going. If bear markets were unrecoverable, stocks would only fall—but they don’t.
Finally, some investors mistake bear markets for economic recessions. Though they can coincide, bear markets and recessions are fundamentally different. A bear market is a market event—when stocks fall over -20% for a sustained period. A recession is an economic event, typically defined as declines in gross domestic product (GDP) for two or more consecutive quarters.
The stock market and the economy are linked, but they are not the same. The economy refers to the production and consumption of goods and services over a defined time period, whereas we refer to the stock market as an ongoing reflection of investor expectations of future corporate profits.
So though bear markets and recessions sometimes overlap, it’s a myth that a falling or volatile stock market means an economic recession is in progress. For instance, the bull market of the later aughts (00s) peaked in October 2007, but a recession didn’t start until the very end of the year.[i] Similarly, while stocks started a new bull market in March 2009, the economy didn’t enter expansion until June. And history has seen many bear markets that were accompanied by perfectly healthy economies. Bears and recessions simply don’t always go hand in hand.
Stocks are forward looking—they tend to move ahead of the economy. This means if you use GDP releases to try to predict a bear market, you’re likely too late. Stocks have likely already digested changes in economic activity and reflected those changes in their forward-looking prices.
If you have trouble weathering market volatility or downturns, you may benefit from working with a trusted adviser. Fisher Investments has educated many investors about bear market myths and behavioral investing, and we may be able to help. Call us today or download one of our educational investing guides to learn more.
[i] Source: Global Financial Data, as of 11/12/2018. S&P 500 Price Index Level from 01/01/1960 – 11/05/2018. Economic recessions as published by the National Bureau of Economic Research.