Investing in Bear Markets

2022 has delivered a blunt reality check to investors. After a massive rally in 2020 and 2021, global stocks and bonds suffered significant declines in the first four months of 2022 and volatility has remained high in the early days of May.

Investors are challenged with how to respond – if at all – to both the simultaneous fall in stocks and bonds and muted expectations for market performance.

Beyond disappointing short-term returns and a spike in volatility, investors face soaring inflation across most developed economies; the prospect of the end of a long era of ‘easy-money’ central bank policies; the war in Ukraine; and the effects of the Covid-19 pandemic, including economy-disrupting shutdowns in China.

To cap off an already volatile period, the Federal Reserve (Fed) and Bank of England each raised their respective interest rates last week.

These economic and market woes might tempt some investors to withdraw from markets and go to cash, but that would be almost ensuring a negative return when taking into account the corrosive effects of inflation.

It would be nice to anticipate when the market reaches its high point, sell everything, wait patiently for the next crash, with people panicking, and then buy everything back at the low point when the market starts to rise again with frightening force. This is what every investor dreams about, but the reality is quite different.

Historically, the best and worst trading days have come close together, making it difficult to avoid one without the other. Last week was a perfect example of that, with US stock prices surging on the day of the Fed’s rate-hike announcement, followed by a plunge the next day.

The bottom line is that sticking to the long-term investment strategy you have devised together may be the best route to investment success. Historically, investors with patience and a long-term perspective would have benefitted more from staying the course than trying to time the market when things get choppy.

Throughout history, we have had several Bear Markets as we can see below.

No-one will be able to know if and how this correction will turn into something worse. We cannot predict, but we can prepare. So, here are some important things to remember about a bear market:

• Very high volatility

• The 'masses' go more crazy than on other occasions

• After the collapse, the rebounds are strong

• There can be strong rebounds even during the collapse, then down again

• This has already happened

• Expected returns rise

• Affects 99% of investments

Regarding psychology and mass behaviour, markets are a mix of greed, hope, fear, and impatience, all characteristics that in very volatile phases are accentuated and can lead us to make mistakes.

Additionally, as almost all asset classes (except cash and a few others) fall in the worst of times, we really feel we have no way out except to sell everything, and that is the worst mistake.

What happens after a bear market, however, is just as important: the markets rebound, and they do so violently and quickly. That's why it's important to BE INVESTED when that happens, and that's why unfortunately many investors don't perform in the markets because they are out (having sold) of everything at that time.

Looking at the positives of bear markets, as mentioned above, we certainly have a number of aspects to consider.

When prices fall, instead of focusing (although I know it's not easy) on the falling prices, we should focus on the fact that expected future returns (and risk premiums) increase considerably, so what is actually happening is that you are creating a very favourable environment for investing your money.

There is no single best strategy, but the important thing is to be aware of all of the above, to be prepared, and to be found invested when the markets resume.