During bear market periods, investing can be risky even for the most seasoned of investors.
A bear market is a period marked with falling stock prices.
In a bear market, investor confidence is extremely low.
Many investors opt to sell off their stocks during a bear market for fear of further losses, thus fuelling a vicious cycle of negativity.
Although the financial implications can vary, typically, bear markets are marked by a 20% downturn or more in stock prices over at least a two-month timeframe.
Bear market phases
Bear markets typically begin when investor confidence begins to wane following a period of more favourable stock prices.
As investors grow increasingly pessimistic about the state of the market, they tend to sell off their investments in order to avoid losing money from the falling stock prices they anticipate.
This behaviour can cause widespread panic, and when it does, stock prices can plummet.
When this happens, trading activity tends to decrease, as do dividend yields.
At some point during a bear market, investors will typically try to capitalise on low stock prices by reinvesting in the market.
As trading activity increases and investor confidence begins to grow, a bear market can eventually transition to a bull market.
Origin of the term “bear market”
The term “bear market” is named for the manner in which a bear tends to attack.
A bear will usually swipe its paws in a downward motion upon its prey, and for this reason, markets laden with falling stock prices are called bear markets.
Bear market vs. bull market
A bull market is one marked with strong investor confidence and optimism. It is the opposite of a bear market, during which negatively prevails.
In a bull market, stock prices go up.
Like the term “bear market,” the term “bull market” is derived from the way a bull attacks its prey.
Because bulls tend to charge with their horns thrusting upward into the air, periods of rising stock prices are called bull markets.
Unfortunately for investors, bull market periods that last too long can give way to bear markets.
Bear market vs. market correction
A market correction is a period in which stock prices drop following a period of higher prices.
The idea behind a correction is that because prices rose higher than they should have, falling prices serve the purpose of “correcting” the situation.
One major difference between a bear market and a market correction is the extent to which prices fall.
Bear markets occur when stock prices drop by 20% or more, whereas corrections typically involve price drops of around 10%.
Furthermore, market corrections tend to last less than two months, whereas bear markets last two months or longer.
Examples of bear markets in Australia
There are a number of real-world examples of bear markets here in Australia. Most recently, the All Ordinaries Index (ASX: XAO) plummeted from an all-time high of 7,255,20 on 20 February 2020 to 4,564.10 by 23 March, shedding 37% in the space of a month as global markets reacted to the impact of the coronavirus pandemic.
But the COVID-19-induced bear market of 2020 isn’t the only (or the sharpest) sell-off the Australian share market has experienced.
The bear market with the steepest fall started in 1987, sparked by the infamous Black Monday. This was the name given to the day the Dow Jones Industrial Average (DJIA) in the United States lost almost 22%, and marked the beginning of a global stock market decline. Black Monday actually hit Australian shores on Tuesday 20 October and resulted in the ASX losing 26% in a single day. From the beginning of October 1987 to 13 November 1987, the All Ords fell by 50%.
The global financial crisis (GFC), sparked by a cratering housing market and credit crunch in the US, saw the All Ords fall by 55% over 14 months, from its peak in November 2007 to its bottom in early March of 2009.
Other examples include the 1929 Great Depression, and the bear market that followed the dot-com bubble collapse in the 2000s, which saw the All Ords lose 21% of its value between March 2002 and March 2003.
Another occurred back in the 1970s in response to the quadrupling of oil prices by the Organization of the Petroleum Exporting Countries (OPEC), which prompted a US recession. That bear market lasted for 19 months (from February 1973 to October 1974) and saw the All Ords plummet a whopping 58%.