Stock prices generally reflect future expectations of cash flows and profits from companies. As growth prospects wane, and expectations are dashed, prices of stocks can decline. Herd behaviour, fear, and a rush to protect downside losses can lead to prolonged periods of depressed asset prices.
Bear markets can last for multiple years or just several weeks. A secular bear market can last anywhere from 10 to 20 years and is characterized by below-average returns on a sustained basis. There may be rallies within secular bear markets where stocks or indexes rally for a period, but the gains are not sustained, and prices revert to lower levels. A cyclical bear market, on the other hand, can last anywhere from a few weeks to several months.
One definition of a bear market says markets are in bear territory when stocks, on average, fall at least 20% off their high. But 20% is an arbitrary number, just as a 10% decline is an arbitrary benchmark for a correction. Another definition of a bear market is when investors are more risk-averse than risk-seeking. This kind of bear market can last for months or years as investors shun speculation in favour of boring, sure bets.
The causes of a bear market often vary, but in general, a weak or slowing or sluggish economy, bursting market bubbles, pandemics, wars, geopolitical crises, and drastic paradigm shifts in the economy such as shifting to an online economy, are all factors that might cause a bear market. The signs of a weak or slowing economy are typically low employment, low disposable income, weak productivity, and a drop in business profits. In addition, any intervention by the government in the economy can also trigger a bear market.
Phases of a Bear Market
Bear markets usually have four different phases.
The first phase is characterized by high prices and high investor sentiment. Towards the end of this phase, investors begin to drop out of the markets and take in profits.
In the second phase, stock prices begin to fall sharply, trading activity and corporate profits begin to drop, and economic indicators, that may have once been positive, start to become below average. Some investors begin to panic as sentiment starts to fall. This is referred to as
capitulation.
The third phase shows speculators start to enter the market, consequently raising some prices and trading volume.
In the fourth and last phase, stock prices continue to drop, but slowly. As low prices and good news starts to attract investors again, bear markets start to lead to bull markets.
“Bear” and “Bull”
The bear market phenomenon is thought to get its name from how a bear attacks its prey by swiping its paws downward. This is why markets with falling stock prices are called bear markets. Just like the bear market, the bull market may be named after how the bull attacks by thrusting its horns up into the air.
Bear Markets vs. Corrections:
A bear market should not be confused with a correction, which is a short-term trend that has a duration of fewer than two months. While corrections offer a good time for value investors to find an entry point into stock markets, bear markets rarely provide suitable points of entry. This barrier is because it is almost impossible to determine a bear market’s bottom. Trying to recoup losses can be an uphill battle unless investors are short sellers or use other strategies to make gains in falling markets.
Short Selling in Bear Markets:
Investors can make gains in a bear market by short selling. This technique involves selling borrowed shares and buying them back at lower prices. It is an extremely risky trade and can cause heavy losses if it does not work out. A short seller must borrow the shares from a broker before a short sell order is placed. The short seller’s profit and loss amount is the difference between the price where the shares were sold and the price where they were bought back, referred to as “covered.”
Conclusion:
Bear markets occur when prices in a market decline by more than 20%, often accompanied by negative investor sentiment and declining economic prospects.
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 often associated with declines in an overall market or index like the S&P 500, but individual securities or commodities can also be considered to be in a bear market if they experience a decline of 20% or more over a sustained period typically two months or more. Bear markets also may accompany general economic downturns such as a recession. Bear markets may be contrasted with upward-trending bull markets.
