When everything in the economy is falling left, right and centre, how can you invest your money so that it helps you increase your overall portfolio returns in the long term?
A market doesn’t become bearish just because the stock market has gone down by a few percentage points, and the stock market has to go down by 20% or more to be called a bear market. The term bear can refer to any particular stock or the market index. For example: If Afterpay (ASX: APT) declines more than twenty per cent in value after introducing new fees in their announcement. We would call that market is bearish on Afterpay.
The terms bear market and stock market correction are often used interchangeably. However, they refer to two different kinds of negative or pessimism in the market. Correction is when the stock or the index fall by ten per cent or more, whereas the term bear is used when the stock or the index fall by twenty per cent or more.
Markets can be triggered by many different events that dictate investors sentiment towards the stock. The Covid-19 and the Subprime Mortgage Crisis of 08 is the most recent example that caused the bear market. It all comes down to how confident the investors are about the future rate of returns of their investments. When the investor is confident in the government policy and the economy is growing, we have a bull market. On the other hand, when the government is at odds with other nations, policies no longer serve the investors interest. Investors pull back on investing activities or pull their money out altogether, which cause the stocks to drop in prices and the ripple move in all sectors of the economy, hence the bear market.
The stock price doesn’t stay on any constant trajectory in any market condition. In the Bull market, stocks can go up to ten per cent then drop four per cent, but when you look at the market in monthly gains or losses, you can see the uptrend, and the same goes for the bear market rallies too, just opposite of the bull market.
Investing in the bear market can be scary for investors as there is so much pessimism built into the market, and what if the stocks you invested in fell in value again? What then?
But if you know what you want out of your investing journey, it can help you decide. A bear market can be the opportunity you need to top up your portfolio if you’re thinking long term when everything you need is selling at a discount.
Here are some rules you can use to help you invest in the bear market the right way.
Don’t try to catch the bottom.
Try to time the market is the battle you are bound to lose every time, and if you happen to win it once or twice, it’s not your skills; it’s your luck. You can never be sure to invest when the market has bottomed out. Buy stocks in solid companies and be prepared to keep them long term.
Focus on quality companies
When bears take over the market, almost all companies lose some or most of their value. Only the companies with solid balance sheets and durable competitive advantage stay stable in the bear market. As Warren Buffett has said, ‘When the tide goes out, that when we figure out who has been swimming naked.’ Companies with over-leveraged balance sheets and no competitive advantage tend to be the first to go into liquidation.
Think long term
The worst thing you can do in a bear market is panic, sell, and cut your losses short. This knee-jerk to market movement is why retail investors tend to underperform the market by a huge margin. The same goes for the bull market; when stocks are soaring and reaching record highs, we buy the stock at the highest point in fear of missing out on the future gains. Almost all retail investors buy stocks when they’re riding highs and sell when stocks hit bottom, and It is antithetical to the fundamental idea of making money.
Make dollar-cost averaging your friend.
Dollar-cost averaging is when you divide your total investment capital and invest it over time instead of putting it all in stock in one go. This strategy is beneficial in mitigating the volatility in the stock market. For example, You decided to invest $10,000 in the market in January 2020 (Just before Covid turned the tables in the stock market); instead of putting it all in one transaction, you decided to employ DCA(Dollar-Cost Averaging). In Jan and Feb, you know you’re missing out on the bullishness of the market. Then comes the outlier in march, and everything is turned on its head when borders are closed (interstate and international). Most businesses have closed their doors, a record number of people are sitting at home with no jobs or enough savings to ride out the storm. Within three months, Australia is in recession after nearly thirty years. But with DCA, you are investing the same amount of money every month — irrespective of how the market is reacting
Diversify your portfolio
During the bear market, companies lose value across all sectors. But some sectors are hit harder than others. That’s why having a well-diversified portfolio is the key. If you’re investing in the number of winning and the ones with the potential to grow in future, it helps to minimise your overall losses on your portfolio.
In a bear market or recessions, investors favour the stocks that deliver a steady stream of income or return — irrespective of what’s going on in the economy. This defensive strategy means adding government-issued bonds or dividend-paying stocks to your portfolio.
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