Practical thoughts on Bear Markets and Corrections

Not if, but when.  Bear Markets are part of investing in the stock market.  This is a fact, you must know to be ready for the worst.  It helps you prepare mentally. These events should not be a surprise, they should be expected.  They are a normal part of investing.  If so, you must have a strategy to deal with Bear Markets.

Market timing is not a strategy.  No one can consistently time markets.  No one. To do this consistently, you have to be right twice, you need to know when to get out and when to get back in.  It doesn’t work.  Be very wary of people who claim they can do this.

So what can you do?

Know the facts about bear markets:  Our source was a CNBC article dating back to August 2th 2015 linked below (the last correction).

http://www.cnbc.com/2015/08/24/8-things-you-need-to-know-about-bear-markets.html

Some highlights below:

The definition of a bear market typically is a 20% decline from market peaks.

The definition of a correction is when stocks fall 10% from market peaks.

How often does these events occur?

From 1900 to 2013 there were 123 corrections, about on every year. And 32 Bear Markets one about every 3.5 years.

How long do they last?

During the average correction the market is fully recovered with 10 months, not too bad!

The average Bear Market lasts for 15 months with stocks declining 32 percent.   The longest last up to 5 years.

So what to do?

If you buy quality companies their stock price typically goes up over time.  Good evidence can be found buy looking at the Dow Jones Industrial Average over the last 100 years.   See the linked chart:

http://www.macrotrends.net/1319/dow-jones-100-year-historical-chart

According to the chart that is adjusted for inflation, the DOW was 1282, on December 2014.  As of December 2015, the DOW was 17,425.  Good evidence that stocks rise, over the long run.  Short-term stocks are volatile.  This can be painful.  Don’t invest in stocks for the short term, it is very risky.

Understanding these principles will help with a strategy.

Investment Strategy

Invest for the long-term.  Own quality companies, large and small, Growth and Value, spread around the globe.  Own, cash, bonds and real estate, gold, etc.  They perform differently.  Rebalance your portfolio periodically.  We typically do this once a year but every two years works, as well.   To rebalance, buy and sell assets each year so that they equal your original allocation.  This forces you to sell winners and buy non-performing asset classes.  The idea is to sell high and buy low.  Asset classes tend to perform differently so that last year winner become losers and vice versa.

http://www.mercer.us/content/dam/mercer/attachments/north-america/us/mercer-periodic-table-of-index-returns-2015-q2-asset-classes.pdf

Your allocation should be set up based upon your tolerance for risk.  That is a topic for another day but you can do an internet search on the term to understand the basics, if you desire.

You need to ride out Corrections and Bear markets.  Know that stocks will recover.  Don’t sell into a Bear Market.  Unless, you feel that the company you own may fail.  For everything else stay the course, you will be fine, given time.

There are some more advanced topics that we will not get into today such as Modern Portfolio Theory that can help refine the basic concepts presented.

http://www.investopedia.com/terms/m/modernportfoliotheory.asp

Other important factors:  Know that you are invested for the long term.  Focus on your goals.  Stock markets can be fickle due to many reason such as: short term traders, economic slowdowns, world problems, country problems and politics, to name a few.  We can’t control these things.  They can be worrisome but try your best to be positive, things do get better.  See the DOW chart if you need convincing.  Consider working with a fee only advisor to help you.  They can help take the emotion out of investing, help you stay on course.  Become familiar with behavioral finance, which teaches us that when it comes to the investment markets, people tend to do the wrong things at the wrong time.

Unfortunately as of this writing we are starting 2016 and looking at a correction squarely in the face.   Hopefully, you can find some ideas here that can be used to help you get through.

Rest assured, in time, stocks will go up again.

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