Education • 7 min read
Falling prices on stocks and crypto markets over a longer period of time with losses of at least 20% are referred to as a “bear market”. “Bear” as in teddy bear - except that these developments aren’t cuddly times. Are you worried about downtrends or even crypto winter and ready to consider hibernation until the bulls are back in session? Take the time instead to learn some of the basics behind bear markets and what to keep in mind.
Using the terms “bulls” and “bears” to describe sentiments in the stock markets dates back a long time - to the 17th century. The diamond trader, Joseph de la Vega, compared events on the stock exchange to the fighting behaviour of two animals, a bull and a bear, in his famous work about stock markets that he fittingly named Confusión de Confusiones.
De la Vega compared upwards price movements and positive sentiment to a bull thrusting its horns from the bottom to the top. Conversely, prices dropping and pessimistic emotions are comparable to a bear beating its paw from the top to the bottom. Let’s clear up some of the confusion around bear markets while you and your assets are waiting for your next honeymoon phase.
A bull market is akin to the way you feel if you are having a great time at a party. You try not to think about the end but somehow you still know in the back of your head that it will end and that the next morning is bound to arrive eventually…
While bear markets won’t cause actual hangovers and have historically tended to last for shorter periods than bull markets, they are still hard to bear (pun intended), especially if you are new to investing and this is your first bear market experience. You begin to realise that investor sentiment is increasingly negative (and not going away) and that the assets in your portfolio are looking red-ish.
How long does a bear market last? While no one can say for sure, the average length of a bear market is around ten months while the longest bull market known lasted for eleven years. This discrepancy could also be a reason for the presumption that bull markets are permanent somehow , which may lead us to think that growth is unlimited - it never is.
The magic words are market cycle. A cycle is a regularly recurring sequence of events, in our case these events are roughly four phases that are similar to business cycles, with developments upwards and downwards over and over:
- The expansion phase in a cycle brings growth and bull markets where investors are looking to buy
- The peak phase is marked by buying pressure in maturing markets and then saturation setting in as investors are stopping to buy assets at very high prices
- Peaks are followed by a stagnation phase where markets weaken and decline
- The sell-off phase means markets fall to their lowest possible level for some time before the cycle is about to begin anew with an expansion phase.
- (No-one knows how long that “some time” is)
Inflation is a monetary phenomenon that is marked by a process of increasing price levels of goods and services. This development in turn means that you can purchase fewer goods for the same amount of money than you did in earlier times.
While moderate increases in inflation rates are natural and help to maintain purchasing power in the medium term, inflation turns problematic when it starts to accelerate and becomes more and more uncertain, simultaneously increasing financial risk. Rising inflation is often an indicator of an impending rise in interest rates, leading to a decline in market prices and a slowdown in economic growth.
Central banks look to curtail inflation by hiking up key interest rates at some point while looking to stabilise the economy without slowing it down too much. As increased interest rates also mean that borrowing money for investments and consumer spending via financial institutions becomes more expensive for consumers and companies, a negative first reaction of stock markets to such news is usually almost immediate. Other economic indicators, such as employment rates, may take much longer to react. When interest rates fall, markets will usually trend upward in a first reaction, as this is often regarded as an indication of economic growth.
What is the best way to prepare for a bear market? There are a number of precautions investors can take to gear up for bearish times. First of all, make sure to plan ahead for the good times as well as for the bad and learn the basics behind fundamental analysis and technical analysis of stocks before you make any investment decisions.
The reason behind investing in a variety of assets is that you ensure a high level of portfolio diversification as different types of asset have historically been affected by bear markets in different ways, especially with regard to growth stocks and value stocks. Try to think of the different scenarios that are possible for your various stocks - how are respective industries affected by different types of developments and what are the inherent risks?
Practice reading trading charts, familiarise yourself with candlesticks and the most important trading indicators. Figure out your investment strategy well in advance and be ready for rough times and plan how you will stick to it to avoid panic selling based on emotions.
Read up on exchange-traded funds (ETFs), learn about bonds, companies with high-dividend stocks and “defensive stocks” which include companies offering goods and services that are always needed by the public, regardless of market developments.
Once a bear market is definitely here to stay, it is actually a good time to do several things and not to do others. First of all, don’t get emotional as you are witnessing price drops and do.not.panic.sell your assets. Historically, bear market recoveries have the potential to provide high returns while selling assets out of an emotional reaction may lock in losses for good.
Remember that you are investing and building your assets for the long term (buy and hold) and that markets will bounce back eventually. If you are looking to turn the downturn into an opportunity and to take a proactive approach to the market situation, consider investing with Bitpanda Savings to utilise cost averaging while actively monitoring economic developments and exploring further opportunities to earn extra income, such as crypto staking while experienced investors may be looking at other options.
While there are no surefire signs that a bear market is drawing to an end and you need to make sure that you are not fooled by a bear market rally, also known as a “sucker rally”, there are signs you can watch for that indicate that economic confidence and market cycles are headed for the upswing. Keep track of the corporate earnings of your favourite stocks to see whether they are improving along with other companies and industries and other signs of a market turnaround, such as indicators of economic recovery and rising investor confidence.
Always keep in mind that it is up to you how you invest and which decisions you make - you should never invest more than you can afford to lose. Check out the price developments of your favourite cryptocurrencies, stocks*, ETFs* and precious metals on our app for iOS and Android and start your investment journey here.
The information shared in this article does not constitute investment advice. Investing carries risks. Make sure to conduct your own research before concluding a transaction. *Bitpanda Stocks are contracts replicating an underlying asset (a stock or ETF) and are brought to you by Bitpanda Financial Services GmbH. More information about the product and the prospectus are available at bitpanda.com.
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