- A bear market occurs when there’s been a significant, continuous fall in stocks or another asset, usually at least 20%.
- Bear markets generally indicate low investor confidence and a sluggish economy.
- Despite their negative reputation, bear markets can offer good buying opportunities for patient investors.
To the average investor, a bear market can be as terrifying as a seven-foot-tall grizzly. It's synonymous with bad news, economic downturns, and overall negativity.
But bears are a natural part of the ebb and flow of the financial markets. Let's track their movements.
What is a bear market?
A bear market is defined as a prolonged period in which investment prices plummet at least 20% from their historical average. A market must fall 20% or more from its most recent high to be considered a bear market, where it remains until it rises 20% from its lowest level.
The term usually refers to a downward move in the stock market — specifically, one of the major indexes: the Dow Jones Industrial Average, the S&P 500, or the tech-oriented Nasdaq. However, it can also be applied to any other asset that slumps for an appreciable amount of time.
Economists and etymologists alike love to debate how bear markets got their name, but it most likely arose from an old proverb about how it's bad "to sell the bear's skin before one has caught the bear," meaning to unload something you didn't actually own. From there, "bears" came to be a slang term for speculators betting that prices were going to drop.
The opposite of a bear market is a bull market, a buoyant period of rising prices. You can keep them straight by envisioning the two animals' characteristic behavior: a hibernating bear (a sinking or sluggish market) and a charging bull (a surging market).
Bear markets vs. corrections
Bear markets shouldn't be confused with corrections, which are a drop of more than 10% but less than 20%. According to the Schwab Center for Financial Research, of the 22 corrections that occurred between November 1974 and early 2020, only four progressed into actual bear territory. Those occurred in 1980, 1987, 2000, and 2007.
Bear markets shouldn't be confused with recessions, either: That's when the gross domestic product suffers at least two quarters of decline, signifying reduced economic output. Although the two often move in tandem, it's possible to have a bear market without a recession, and vice versa.
Key traits of a bear market
However, bear markets are often triggered by an economic downturn — a contraction phase in the business cycle. Negative news or events can also cause stocks to change course.
The main characteristics of a bear market include:
- Investors turn pessimistic. They decide to sell current investments or stop buying more. This increases the supply of available shares, depressing prices.
- Stock values decline. Listed companies are worth less on paper due to their lower stock prices.
- Investor sentiment turns negative. The consensus is that the market's stopped growing and won't appreciate anytime soon. Investors move money to safer and steadier assets, like Treasury bills and investment-grade bonds.
- Companies make less money. Consumers are buying less, investors have lost confidence. Corporate earnings and profits fall or stagnate. This leads to firms laying people off, cutting production, and curbing research and development.
- The economic malaise spreads. Money becomes more tight, leading to the risk of deflation. Markets, production, spending are moribund.
- A turnaround occurs. Conditions bottom out. Lower interest rates stimulate spending and borrowing again. As activity and confidence return, stocks rebound and the market begins a bull run.
How long do bear markets last?
Bear markets can last for any length of time. Investors distinguish between "cyclical" and "secular" bear markets, which differ in their time frame. Cyclical bears tend to be short-term, lasting a few months. Bears that are "secular" can endure from five to 25 years.
Secular bears aren't one long slide downward, either: During "bear market rallies," for instance, stock prices rise for a time before plunging again, to new lows.
Because the low-point can only be figured out retroactively, after the market's definitely on the rebound, there's always a lag before you can declare a bear market definitely over. (Bull markets have the same issue.)
A bear cub market
As of fall 2020, the US is in a bull market. It followed on the heels of the shortest bear market in history, which lasted just 33 days, from February 19, when the markets started declining, to March 23, when they bottomed out. Like everything else about 2020, this was extraordinary, since every other bear market has lasted much longer.
Although the economy remains wobbly, the quick flip to a bull implies that investors think that the COVID-19 pandemic will be overcome relatively quickly, perhaps through the development of a vaccine.
Tips on investing in a bear market
Bear markets are bad news to most investors since it's harder to make money when they are happening. But you won't necessarily lose money, either — especially if you're able to hold on until prices rise. Of course, that could take some time, and it can be painful playing the waiting game.
Here are a few other time-tested ways to weather a bear market:
- Stay calm. You may be tempted to sell all your investments at once. But if you do want or need to get rid of your stocks, consider selling only 10% at a time, and freshly evaluating your position each time before you do so. Post-1966 bear markets have lasted on average 17 months, while bulls have lasted more than 75 months.
- Stick to the staples. Companies that have provided a dividend in previous downturns, or that offer goods and services that people need even when the economy is bad — think food or utilities — often hold their value. Or even increase.
- Look at what's on sale. Bear markets are good for bargain-hunting. Fundamentally sound companies may be temporarily depressed, their shares slashed by the bear's claws. Buy them now and you'll be ready when they rebound.
- Don't get too thirsty for big returns. It can be easy to end up with overly risky investments when you're in the middle of a bear market, looking under every rock for investments with big payoffs — you hope. Pay close attention to risk, and make sure you understand what you are investing in.
The financial takeaway
Hardly anyone is happy when the bears show up on Wall Street, but they are an inescapable fact of the financial landscape. Although they can cause pain, they can also induce a necessary cooling-off period for the stock market. And they help distinguish truly valuable investments from those that were overly inflated when the bulls were in charge.
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