A bear market is when the market hits a rough patch, experiencing a drop of 20% or more from its peak. While it's never fun to see prices fall, these downturns are a completely normal and temporary part of the long-term investing journey. The key is to keep a level head and stick to your plan, as history shows these periods pass and can even be a great opportunity to invest at lower prices.
A bear market is a period when a major market index, such as the UK's FTSE 100 or the US's S&P 500, falls by 20% or more from its recent highs. This market environment is characterised by widespread pessimism. Investor confidence is low, leading many to sell stocks, which in turn pushes prices down further. This is the direct opposite of a bull market, where prices are rising and optimism is high.
When are we in a bear market?
Bear markets can only be identified retrospectively, once a market index has fallen more than 20%. It is a backwards-looking label rather than a real-time indicator.
However, certain economic signals often precede or accompany a bear market. These can include:
- Slowing economy: Key indicators like rising unemployment, a drop in corporate profits, and reduced consumer spending often signal an economic downturn that can lead to a bear market.
- Rising interest rates: Central banks, such as the Bank of England, raise interest rates to combat inflation. This can make borrowing more expensive, cooling the economy and sometimes triggering a market downturn.
- Geopolitical events: Major global events, such as wars or energy crises, create uncertainty and can cause investors to sell off assets in a flight to safety.
How long do bear markets last?
There are different types of bear markets, and typically recovery times differ depending on the cause. Research from Goldman Sachs1 identifies three distinct categories of bear market based on historical stock market data:
- Structural bear markets such as the Global Financial Crisis in 2007-2008 are triggered by a market imbalance and ‘bubbles’. By far the most severe type, average declines are around 60% and recovery time is around a decade.
- Cyclical bear markets are tied to rising and falling economic cycles, and can be triggered by economic headwinds such as rising interest rates, impending recessions, and declining profits. Average declines are around 30%, which last an average of two years, and take about five years to fully recover.
- Event-driven bear markets are triggered by single events such as wars, oil prices shocks, or a global crisis such as the Covid pandemic. Recovery periods are shorter, typically lasting around eight months, with full recovery in around a year.
What does bearish mean?
If you are a bear in the market, you are a stock market pessimist, and believe that prices are going to experience a downward trajectory. This is the direct opposite of being bullish, which is a belief that prices are heading upwards.
A bear in the stock market might react differently depending on strategy and risk appetite. Some adopt a very high-risk strategy called short-selling, essentially betting on the falling price of a stock or market index, by borrowing shares from a lender, selling them on the open market, then selling them back to the lender at the (hopefully) lower price and profiting from the difference.
Other bears might take a more defensive position, moving to ‘safe-haven’ assets such as cash and bonds, in an attempt to preserve or even grow capital during a market downturn.
How to approach a bear market?
There is no one-size-fits-all approach to a bear market event, but for investors with a long-term horizon, the same key principles apply.
- Avoid panic selling: keeping calm in the event of a market downturn is crucially important if prices have already fallen, and selling will simply ‘lock in’ any losses you’re seeing in your portfolio. You risk missing the recovery period, and could derail your long-term goals.
- Review your goals: if your financial goals are still years away, you likely have sufficient time to wait out the downturn. Familiarising yourself with the upward trends of the stock market over time can help put things in perspective.
- Stay diversified: spreading your investments across different asset classes and regions, can help cushion the impact of a bear market, particularly in event-driven circumstances that can be specific to an industry or market region.
- Regular investments: continuing to invest a fixed amount, whatever the price, can help smooth out the ups and downs of the market. In a bear market, these investments are taking advantage of lower prices and potentially increasing returns when the market recovers.
While bear markets can be unsettling, they’re a natural feature of the economic cycle, and can even present opportunities if navigated properly. Historically, bear markets in global markets have eventually been followed by a new bull market and a period of economic recovery, so staying the course if your financial goals allow it can be the best route for investors.
When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than your original investment. Chip does not offer financial advice and this should not be considered as a personal recommendation. Chip does not offer single share stocks within its product range.
Important to know: When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than your original investment.
1Tax treatment depends on individual circumstances and may be subject to change in the future.