Disclaimer: The viewpoints expressed by the author in this article do not necessarily reflect the viewpoints of Financial Literacy for Youth (FLY) Malaysia.
The terms “bear” and “bull” markets have been highlighted in most financial related articles.
There is a certain stigma associated with talking about bear markets and recessions, as if acknowledging them would make them more likely to occur. This article explores what bear markets really entail, the reasons they occur and how one can survive a “bear market”
Bear markets occur when the stock market index such as the S&P 500 declines by 20% or more over a specific time period – usually two months or more. A bear market can also accompany economic recessions, similar to the Dot Com Bubble in 2000 and the Global Financial Crisis in 2008.
In contrast, bull markets occur when the equity/prices rise. According to Yahoo Finance, there is no universally accepted percentage indicator for how much a market might increase before being considered as a bull market, as opposed to a bear market. However, the accepted conventional wisdom is when a stock market is up 20% from its recent high – it’s a bull market, and when it’s down 20% – it’s a bear market.
Ever wondered how the term “bearish” came about? During the 18th century, fur traders would sell the bear skin before they received it. (Note: the trader does not have the stock with him). The traders would speculate that the future price of the skin would drop. When it does, the trader would buy the skin for less than its original price, profiting from the transaction. The traders are known as “bears”, which are also used to describe market downturn.
Causes of bear markets
One of the factors that contributes to a bear market is when uncertainties begin to emerge in the economy.
For instance, an increase in interest rate results in an increase in cost of borrowing for companies and individuals who plan to purchase big-ticket items such as houses or cars. Consumption and investments are huge contributors towards economic growth. Thus, high interest rates deter both consumption and investment, which ultimately reduces economic growth. When economic growth stalls, financial markets begin to look more uncertain rather than buoying financial markets, eventually, driving bear market cycles.
There is mounting evidence proving that the paradigm shifts in the economy drives the economy to bear markets. Assuming that we subscribe to the idea that the stock market is a “forward looking mechanism” – investors might expect that the effects of the Russian invasion of Ukraine would impact the economy negatively. For instance, rising oil prices (as much as $150 a barrel) may stall economic growth. The inflationary pressure and volatility in prices worsen bear markets as investors feel rather pessimistic towards the stock market.
Body #2: How to survive bear markets
Though bear markets may cause you to toss around your bed, fret over your investments declining and possibly having indigestion, here are some suggestions for investors to survive bear markets.
1. Be well-informed about market conditions.
Having a positive mindset while watching your portfolio decline continuously is easier said than done, especially when there is fear of recession flaring up. Rather than looking solely at your portfolio, consider reading the news on the overall economic conditions. For example, evaluate whether the news of the Russia-Ukraine war has any direct impact on your stocks. Then, use the information to make a decision on your next move. You could use News platforms such as Yahoo Finance, The Economist and The Guardian to gain insights and updates on the world economy. After utilising the news platform to obtain information about the current economic condition, consider conducting a fundamental analysis on the stock you’re investing in. Calculate the intrinsic value of the stock, determine the fair value and whether the stock is over or undervalued. An asset is undervalued when its market price (the price that is visible/published in the stock market) is lower than its intrinsic value (the invisible price of the stock).
For instance, a stock has an intrinsic value of RM 10 but its market price is RM5. This would mean that the stock is undervalued. Investors can use the discounted cash flow (DCF) model to calculate the valuation of the stock. If there are no material changes to the stock or investment, there isn’t much to worry about unless a further dip is predicted in the bear market.
2. Using gold as a strategic asset.
The price of yellow metals (gold) often moves inversely with stocks – it rises when the dollar falls. Jeff Benjamin from Investment news reported that the price of gold increased by an average of 7.6 % over the course of the three bear markets since 2005, during which the S&P fell by more than 20%. Take a look at the diagram below for a quick illustration.
A downturn in the global markets results in a possible rise in an investment portfolio’s overall risk and volatility. Gold helps investors to protect their wealth during a market downturn as it can be considered as a store of value. This means that the value of gold does not deteriorate during an economic crisis. How does an investment in gold differ from investing in stocks and bonds? A purchase in gold is not an investment which contributes to the growth of a company. Thus, the investor would not get dividends from it. However, investing in gold could be beneficial in the long run.
Storing physical gold may not be practical at times. Hence, it is recommended to purchase gold ETFs. According to Bursa Digital Research’s ETF Performance Report, the most active ETF in February 2022 was the gold exchange-traded fund (GOLD ETF), with RM2.4 million in transactions.
3. View Historical data about bear markets
| Bear market trend | |
| Year | Explanation |
| March 2000 to September 2001 | Bear market lasted 546 days
Cause: Recession hit the country and there was a bust in dot-com industry |
| October 2007 to November 2008 | Bear market lasted 408 days
Cause: The Great Recession, housing markets collapsed and u-rate surged to 10% |
Viewing historical data about bear markets enables one to identify signals of a bear market, planning on decisions to make when a bear market occurs. Based on the table, it is visible that the period of bear markets last varies depending on (1) the factors that caused it and (2) how long the economy takes to recover. In the grand scheme of things, the stock market usually goes up as indicated by the green arrows in the stock market diagram, thus, it is better to stay invested.
4. Invest what you’re able to lose
Understand the difference between transactionary, precautionary and speculative demand for money. Transactionary is when money is used to pay for an individual’s day-to-day consumption such as electricity bills, groceries, train ticket. Precautionary is also known as “emergency funds”, such as medical bills and speculative is the portfolio demand for money, whereby money is used to invest. To further elaborate, let’s see how Tommy separates his funds.
This is going off the idea of one of the most prominent Economist – John Maynard Keynes on how we can think about ‘money’.
Let’s assume Tommy’s monthly income is RM2000.
- Given he lives alone in his apartment, he needs to put aside RM1000 for his bill payments like electricity bills and grocer payments. This is what is referred to as “Transactionary Money”
- Being someone with foresight, Tommy puts aside RM500 every month as a rainy day fund, in case he gets sick or car troubles come about. This is what is referred to as “Precautionary Money”
- The remaining “RM500” is referred to as “Speculative Money”. These are funds that Tommy can afford to lose, and he hopes to use this ‘money’ as a way to achieve capital growth. If Tommy decides to invest in say a highly risky cryptocurrency and happens to lose a lot of money – it should be fine given that he’s paid all his necessary bills for the month.
- If Tommy does not plan to use the remaining “RM 500” to invest, he could take the safe route and leverage on a fixed deposit. By making a deposit of “RM500” in banks such as bank rakyat, he could earn an interest of 1.85% to 2.75% per annum. He would gain on top of the amount he has deposited.
For new investors who are risk averse (meaning not willing to take large amounts of risk), perhaps you can consider using robo-advisors when investing.
The average cost of Robo-Advisory platforms like Vanguard Digital Advisor is 0.15% with a minimum account balance of $3000 which is typically lower than human advisors, which costs 1% to 2% according to CNBC. Robo advisors operate using Modern Portfolio Theory (MPT), which maximises the overall returns with a lower and acceptable risk level. For those who get particularly emotional when investing, robo-advisories may be a more viable option. Some examples of robo advisor platforms in Malaysia are Stashaway, MyTHEO and Akru.
Whether this works out in the future is uncertain, but an advice that is true no matter what; is staying invested is better than staying on the side lines.
Conclusion
Bear markets may be a behemoth to many risk-averse investors. Based on the analysis conveyed, investors could potentially seize the opportunity to make a profit as discussed in point (2). Having both financial literacy and a positive mentality is crucial when it comes to investing in any market.
Bear markets may seem particularly daunting, especially to those who want to start investing. However, this deep-dive has pointed out that there are more bull markets than bear markets which could imply that stocks rise more often then they fall.
The second point, as elaborated in part 2 also highlights potential oppurtunities available to investors to capitalise on bear markets – however these are not without their own risk.
References:
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Corporate Finance Institute Team. (2022, March 5). Store of Value – Overview, How It Works, Examples. Corporate Finance Institute. https://corporatefinanceinstitute.com/resources/knowledge/valuation/store-of-value/
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Researcher: Wen May
Reviewer: Muhammad Bahari, Nasir Ali
Editor: Emelia Anne
