You might have heard the terms bull and bear markets, but where do they come from?
Bears are creatures that most of us would agree are best avoided. Unlike Paddington, who is partial to the odd marmalade sandwich, most real-life bears would happily make a meal out of any human that strayed too close.
Thankfully, although scary, bears in financial markets are not to be feared.
Although no universally agreed definition exists, it’s widely accepted that a bear market represents a price decrease of more than 20% relative to a previous peak. But why do we use the terminology ‘bear’ as opposed to something less intimidating?
Well, it’s attributed to how bears attack their prey, swiping their paws downwards.
When markets are on the up, we name them bulls, as bulls thrust their horns up while attacking.
Markets cycle between bear and bull markets, but over the long run, there is only one direction that financial markets head: up!
Actions are louder than bears
Of course, a 20%+ decrease in a portfolio’s value would cause even the most seasoned investor some anxiety. It’s only natural to become unnerved when financial markets start to drop, and the 24‑hour news media predicts nothing but financial Armageddon. However, it’s not the bear market that will have the greatest impact on the long-term return of a portfolio, rather it’s the actions that investors take during the bear market that have the greatest impact.
During a bear market, less disciplined investors, seeing the value of their investment fall, will be tempted to throw in the towel, to cut their losses. In fact, this is quite possibly the worst course of action. By doing so the investor locks in those losses and misses the inevitable market rebound. To make matters worse, an undisciplined investor having sold out during the bear market will be buoyed by the subsequent bull market and re-invest. An investment strategy based on selling low and buying high is not a sound strategy!
Arguably, the hardest part for those investing over the long term is accepting that things will not always be plain sailing; bears are as natural to the forests as they are to financial markets. What’s more, despite the claims of some, we cannot predict when they will occur, what will cause them, the magnitude of the downturn or the time taken for the market to recover. The chart below serves to illustrate these points.
As we can see below, over the last 100 years the UK market has endured no less than eleven bear markets with initial causes ranging from the Great Depression in 1929 to the Dot-com bubble in 2000. What’s striking is the different duration of each bear market, the path to recover and the time taken for that recovery; each bear market has been truly unique. Nevertheless, we can take solace in recognising that markets always do recover.
What’s more this chart serves to illustrate the importance of remaining invested, even when things look bleak. Let’s examine the deepest and one of the longest UK bear markets, which started in June 1972 and lasted 58 months. An initial investment of £100,000 made at the start of that market downturn would have fallen by almost 70%, arguably, holding one’s nerve when exposed to such losses would be a difficult task. But remaining invested would have allowed the investor to capture the subsequent 154 months bull market and would have seen their investment grow to £1,207,159!
In summary, while financial bears are by no means as innocuous as the marmalade loving Paddington, akin to their wild counterparts, if investors understand their nature and give them the respect they deserve, they need not be feared.
Smart investors know that both bears and bulls exist naturally in financial markets. Although the bear has appeared grumpily from hibernation, powerfully swiping at the financial markets on numerous occasions, the bear inevitably becomes weary, allowing the bull to re-establish itself as the dominant force over the long-term.
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