3 Ways to Thrive and Survive a Bear Market
A bear market is a very rough time for most investors and can feel like the ultimate test of character, but there are things you can do to help you survive it and thrive while others fail.
While the recent stock market decline isn’t the end of the world, it does provide a unique opportunity to learn from others as well as an overall understanding of the history of the stock market. There is much to learn from the past as well as the lessons learned from seasoned investors.
You know what they say about bears: when they’re not hibernating, they’re either running away from something or trying to eat you. But there are a lot of ways to survive a bear market—and thrive. Investing can be volatile and bearish during market downturns.
When the market turns bearish, many investors panic and want to flee to the safety of cash. But the smarter strategy is to stay invested, focused on the long-term and ride out the inevitable bear market. It’s very difficult to predict what’s coming next—and when the market turns sour, you’ll find yourself needing to revisit your plan, your overall financial goals and make adjustments accordingly.
As an investor, it’s essential to not only survive, but thrive during a bear market. So, here are three ways to thrive and survive a bear market.
But, first let's define what is considered a bear market?
What is a Bear Market?
In the past week, the term "bear market" has come out of hibernation and has entered the neverending newscycle. What does that mean for you as an investor?
The term bear market refers to a period where stocks fall in value, usually in response to some economic factor that has affected other parts of the world.
A bear market is often associated with a stock market crash, but the term may also be applied to situations where the market falls in value without crashing. Bear markets are not necessarily long-term events; they can happen very quickly. For example, the bear market of February 2020 lasted only 33 days but saw a decline of 34% in the S&P 500 (see chart below).
Investopia states that a bear market: "is when a market experiences prolonged price declines. It typically describes a condition in which securities prices fall 20% or more from recent highs amid widespread pessimism and negative investor sentiment."
Bear markets are usually associated with declines in the overall market or index like the S&P 500. However, certain individual securities or commodities can also be considered to be in a bear market when they experience a 20% or more decline of stock price over a sustained period of time—typically two months or more. A bear market is an extended decline in stock prices caused by a drop in overall demand. Bear markets are sometimes contrasted with bull markets, in which the stock market is advancing. (source: Investopedia)
In order to survive and thrive during a bear market, here are three useful tips.
1. Keep Your Emotions in Check
According to research conducted by Dr. Brian Little, emotions have a powerful influence on our decision-making process. Emotions have an impact on how we think, act and live our lives. Emotions affect us all the time and can make us feel confused, frustrated and angry. While emotion may lead us astray, it’s possible to overcome these negative emotions. The key is to recognize our feelings and how they’re influencing us.
When it comes to investing, when we experience the loss in our portfolios the emotions we feel can have a detrimental impact on our judgment and behavior. The key is not to make portfolio decisions when we are feeling emotional. However, the power of emotions can be harnessed for good. Instead of letting our emotions rule our actions, we can make better decisions by recognizing our feelings and how they are influencing us. A check in with your financial planner can help get an emotional gut check regarding our plan and future.
It is helpful to be cognizant of some of the typical investor emotions that come with bear markets.
Fear of the Future
Whether it’s fear of the future of the economy, the future of the environment, the future of health, the future of privacy, etc., fear appeals to humans because it taps into a primal need to avoid pain. Fear can cause people to take action when there is a real threat, but also make them ignore the reality of the situation.
A helpful practice to manage the fear of the future is to look to the past to see the many times that the stock market was bearish, volatile and filled with uncertainty. What one realizes when they familiarize themselves with the long history of investing, in the long-term, the stock market returns reward those who stay the course.
Familiarity Bias
The second psychological principle on the list is a bit of a sleeper: familiarity bias. According to the theory, if we encounter something new, we tend to assume it must be inferior or worse than something we’re familiar with. In other words, the more familiar we are with something, the less likely we are to judge it favorably. However, it’s important to keep in mind that familiarity doesn’t always mean quality.
According to behavioral finance, familiarity bias refers to the tendency of investors to value current market returns over future market returns. Familiarity bias occurs because people tend to rely on existing market knowledge and assumptions when making investment decisions. In other words, people are biased toward the past. The problem with familiarity bias is that it causes people to overlook the fact that the future is unknown and unpredictable. This means that familiarity bias can lead people to undervalue the potential return of an investment, thus hindering future growth and returns.
Familiarity bias is an example of anchoring. Anchoring is the tendency of people to fixate on a single aspect of an issue and ignore all other aspects of the subject. Anchoring is a form of cognitive bias, meaning that people often think in a way that is biased by their past experiences. It is important to avoid anchoring. Always be open-minded to new ideas. Keep an open mind when making decisions.
Overconfidence
When the market is going up investors will experience overconfidence causing them to ignore risk while they continue to buy more stock; they are convinced that prices will continue to rise. A constant rising market will give investors a false sense of security.
On the flip side if the market is crashing, investors tend to want to sell since doing so they can protect their losses.
At the heart of this behavior is overconfidence in their ability to predict (with great probability) the direction of the market as well as the economic circumstances to justify their behavior.
2. Take Stock and Revisit Your Financial Plan
Take stock
When there is upheaval in the market, it is helpful to take stock of your investment plan and situation. With your financial planner, you can review your financial plan and re-examine your goals and risk tolerance of your investment strategy.
Revisit your financial plan
By revisiting your financial plan, you will be able to have the confidence that your plan already took into account the fact that there would be bear markets and that the probability of what is going on currently in your portfolio was part of the overall investment and plan strategy.
Make adjustments
When there is a significant downturn in the markets, investors often will want to make necessary adjustments to their portfolio. This behavior usually results in chasing the next hot sector, selling out of equities, and desperately trying to preserve their losses by moving to cash or its equivalent. A well thought out financial plan will help investors have the discipline, focus and confidence they need to stay the course and focus on their long-term goals. Of course, if there is a significant life changing event (sickness, death or loss of job), adjustments can be made to the financial plan and investment strategy. However, making adjustments because of market downturns might not be prudent since it is difficult to predict or forecast the future.
One necessary and prudent adjustment strategy during bear markets is to make sure the portfolio does not become overweighted in its particular asset allocation holdings. In times of great volatility, the discipline of portfolio rebalancing ensures that you are buying when prices are relatively low and selling when prices are relatively high. This type of adjusting is a sort of course correction of prudence and discipline. Like an airline pilot who devises a flight plan to meet their destination, their plan will require adjustments due to varying factors that will take the plane potentially off course. These minor adjustments ensure that the plane and its precious cargo arrive safely and on time. A financial plan is a veritable flight plan that will require the skill and wisdom of a financial planner that can make the necessary adjustments so that you can arrive safely at your goal.
Business Coach Rob Jeppse writes in an article called The Importance of Course Correction:
"In 1979, a DC-10 Passenger Jet flew from New Zealand to Antarctica on a sightseeing excursion on Air New Zealand flight 901. This 8 hour flight would provide passengers an experience of a lifetime: a chance to see the bottom of the world. 257 passengers and crew members took off at 8:20 that morning for a routine 8 hour round-trip sightseeing trip with great anticipation to experience a part of the world very few people had ever seen.
Unbeknownst to the flight crew, someone mistakenly changed the flight plan...typing a "6" into the flight computer instead of a "4" when entering the final number of the latitude and longitude coordinates. This simple mistake changed the flight plan by a mere two degrees...a very small mistake...but one that changed the course of the flight East by 28 miles on the flight to Antarctica. While the pilots were both very experienced, neither had flown the Antarctic route. There was no way for them to know their new course put them on a collision course with Mt. Erebus, an active volcano rising above the frozen Antarctic landscape by 12,000 feet."
What if you don't have a financial plan?
Financial planning is a process that many people find daunting, but it is easy to implement when working with a Certified Financial Planner (CFP). The plan and process is not a cumbersome and overwhelming experience since the focus is on you and your financial goals. No one knows better than you what your current situation is and what it is you need.
A financial plan can help you invest for the long term and to plan carefully for the future. It will help you answer questions about whether you have enough money saved for retirement. How much you will need to live comfortably after retirement. How much money will you need in order to maintain your lifestyle? Will you have enough money to pay for your health insurance? Once you figure out what your needs are, you will be able to figure out what you will need to do to make sure that you will have enough money saved to support your lifestyle.
Investing is one of the most difficult things to do. It takes time, patience and a lot of work but the guidance provided by a financial plan will help navigate waters of any type of market.
3. Look Back to Look Forward
The last strategy to thrive and survive in the market is to become familiar with its history. We are fortunate to have a long data-set regarding the performance of the market. This is not to say that we can use this past data to predict the future. But, we can use this long-term data to see how past events have unfolded and how investors are rewarded regarding the discipline needed to stay the course. By studying the history of the stock market, you'll be better-equipped to put in proper context what is currently happening with the wisdom knowing that "there is nothing new under the sun." This insight into the past can give you a competitive advantage over those who are unaware of the historical trends and cycles.
It's important to note that some people believe that past trends are irrelevant. They say, "You can't learn anything from history." This is an erroneous belief. History is the best teacher of all. When you understand the past, you can make better decisions for the future.
Conclusion
In conclusion, an investor should always look at the market through the lens of their own financial plan. A bear market is always going to hit harder than a bull market. But an investor should still take a balanced approach when investing and should make sure that their plan aligns with their overall strategy. The bear market will only last so long before it reverses itself. So, make sure you invest appropriately and diversify your investments, and revisit your financial plan with your advisor.
