How to Invest during a Bear Market

It’s never a great feeling seeing your portfolio in the red day after day, especially if you’re an investor with considerable exposure to the market.  Unfortunately, bear markets are a regular part of economic cycles so, its important to learn how to set yourself up for success for when they do happen.

What is a Bear Market?

A bear market is when the market experiences prolonged declines. Typically defined when a major index (i.e. S&P 500) falls 20% or more from recent highs. Bear markets often accompany general economic downturns such as a recession.

The causes of a bear market vary but in general, they are caused by a weak or slowing economy, bursting market bubbles, wars, and geopolitical crises (or pandemics). The signs of a weak or slowing economy are typically low employment, low disposable income, weak productivity, and a drop in business profits. In addition, any intervention by the government in the economy can also trigger a bear market (cough cough money printing).

Bear markets can last several weeks to several years however, its important to remember that they don’t last forever and the market rewards long-term thinking. While the stock market will always fluctuate and experience volatility, over the long-term the market goes up, with the S&P 500 generating an average 9.4% annualized return.

In the meantime, learning the proper strategies to brace yourself, or even take advantage, of bear markets can help build your wealth and set you up for long-term success.

How to Invest during a Bear Market

Invest in Safer Companies to Reduce Equity Risk

As you put together your investing strategy, there are different types of stocks you can invest in: riskier stocks and safer stocks (to over-simplify).

Typically riskier stocks are newer or operate in an innovative sector, don’t have any positive cash flows or generate any profits, and trade at a high price multiples.

On the other hand, safer stocks typically operate in a mature industry, have steady profits, positive cash flows, pay consistent dividends, and trade at low multiples.

During a bear market, it can be a smart strategy to de-risk your portfolio for any future volatility. While riskier stocks may have potential for higher returns, you never know how the economic downturn will impact the business, especially if they haven’t been around long enough to face such difficulties. It’s also a good time to re-evaluate your risk tolerance, if you can’t ‘bear’ the losses in a bear market, it’s likely your portfolio was too risky for your tolerance anyway!

Many also see bear markets as an opportunity to buy shares in high-quality companies at a discount - think of it like a big warehouse sale for your favourite stocks!

Increase your Cash Allocation early-on

If you’re early to the game and are able to detect a bear market coming (easier said than done), then it could be a good idea to withdraw a portion of your portfolio to cash. This is similar to the concept to de-risking your portfolio by investing in safer companies, with the added benefit of having extra cash on hand to invest during the downturn.

Dollar-Cost Averaging

Probably the most important strategy for when markets are volatile or trending downward is to dollar-cost average (DCA).

Dollar-cost averaging is an investing strategy where you (the investor) spread out your purchases so that the impact of volatility on your portfolio is reduced. It involves investing the same amount of money in a stock at regular intervals over a certain time period, regardless of price.

For example, if you had $6000, you could try to time the market and invest it all at the “right time”, or you can invest $1000 each month for 6 months - this reduces your exposure to volatility (and stress or FOMO).

The Takeaway

Bear markets are an unavoidable part of economic cycles. All we can do as investors is learn how to set ourselves up for success to tackle them when they occur. Utilizing the three strategies mentioned above will decrease your chances of getting hit hard by unpredictable volatility and even allow you to take advantage of the dips to build your wealth further.

If you’re still unsure about what to do during a bear market, you can join an investor community like Blossom Social which allows your to discuss strategies with other Canadian investors and even see what they’re doing with their portfolios and trades during the downturn.