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Understanding Bull And Bear Markets

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Most of us would agree that the investment recommendations and financial reports include complex financial markets terminology. Especially terms like earnings per share and asset allocation are difficult to understand. The two terms, ‘bull’ and ‘bear’ are probably the most common terms that investors are aware of.

The bull and bear markets have their own significance. Investors should understand the impact of both these scenarios to make smart investment decisions. Typically, these two terms describe the performance of the market and its impact on an investment portfolio. 

Investopedia defines “bull” and “bear” as actions, attitudes, and sentiments of an individual asset or the broader market. The derivation of these terms come from the actual attacking strategy of the two powerful animals. A popular explanation of its origin is that the bull will thrust its horns up into the air, while a bear swipes downwards.

Metaphorically, these attributes depict the direction of market momentum. In other words, if the market is witnessing an uptick, then it is a bull market. It was a bear market if the market was down.

What is a Bear market?

When a market is bearish, the stock prices drop for a prolonged period of time in the market. Typically, a market is bearish due to a 20% fall in price from its previous high. During this time the sellers have an upper hand and drive the market momentum.

A bear market occurs when the economic growth is sluggish or there is a financial downturn. This is often followed by a recessionary environment, high unemployment rates, etc. A smart investor is always on the lookout for early signs of a bear market. Most often, a decline in the economy is a sign of bearish markets.

A publication on thebalance says that the loss of investor confidence can trigger a bearish view of the market. In a business cycle, a bear market is likely to occur during the contraction phase. It can last anywhere between a few weeks leading up to a few decades.

Although terms like ‘stock-market correction’ and ‘bear market’ are used interchangeably, that is not the case in reality. When markets are in a correction phase, prices drop 10% from the recent high. On the other hand, a dip of 20% from the broader market indices depicts a bear market.

An insight into Bull markets

A continuous rise in stock prices denotes a bull market. Investors opine that the market is bullish if there is a 20% hike in prices compared to its previous low. Since the bull market is characterized by rising prices, buyers have an upper hand and dominate the market.

A bull market is a sign of a strengthening economy. Most often, it is accompanied by higher corporate earnings and a dip in the unemployment rate. According to thebalance, investor sentiments influence the stock prices in a self-fulfilling prophecy.

This term is used when investors create circumstances leading to a price rise. With the shift in the demand curve during a bull run, investors enter a stage where they are absolutely confident that the price will increase further and forget the underlying value.

A bull market continues as long as the supply of assets faces resistance from the rising prices. The equilibrium is reset when the investors embark on a selling spree and the stock price begins to decline. A bull market may also last for several months or years.

Investing in Bear and Bull Markets

During a bull run, the general sentiments of investors are positive whereas on the other end of the spectrum investors are pessimistic in a bear market.

A MotleyFool publication cautions investors during a bear market, suggesting that an investor should not take emotional decisions about selling their investments right away, “before things get any worse”. An alternate approach would be to look for quality stocks that can prove to be great long-term investments.

A bear market is an opportune time to invest in quality stocks, especially as they are trading at a below-par rate. But this doesn’t mean that you should try to time the market and wait for the stock prices to hit rock bottom. It is better to build your investments over time, even if they are slow rather than trying to buy at the lowest.

While it is a smart move to buy stocks at low, you can consider investing during a bull market by focusing on growth stocks. An investor can also take advantage by buying stocks in an early trend and maintain a long-term focus while investing in a bull market.

You can also learn the principle of dollar-cost averaging, where you invest a certain amount of money at regular intervals that would enable you to buy at different rates and benefit from corrections and crashes as well. If you are planning to exit few stocks, the bull market can be an ideal time to sell these investments.

Since both the bear and bull markets have a direct impact on the risk profile and portfolio returns, fund managers and investors keep a close watch on the overall market momentum.



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