A bear market is one in which stock prices are in a state of decline. Of course stock prices rise and fall on a daily basis and you may therefore ask: fall to what extent? In a bear market scenario stock prices fall continuously for a few weeks. Further a bear market is identified by a decline in stock prices that stands at 20% or more.
Investors display various approaches to investment during a bear market. Some prefer to lie very still - very much like a bear in hibernation - and wait till stock prices rise again. Others go on a buying spree in order to make the most of low stock prices. The second category tends to view a bear market in the same way as any diva would view a shoe sale…. As a time to buy aggressively. There is also the approach of pulling out all of one's stock from more volatile stocks and diverting capital to less risky propositions. There are also the rupee-cost averaging bunch who invest a small pre-determined sum irrespective of the state of the market.
Let us take a closer look at some of these approaches, beginning with the discount price buying strategy. If your strategy is to take advantage of low stock prices it might be advisable to consider a trio of guidelines that seasoned investors adhere to when playing a bear market.
One, they invest in larger, more stable companies. Stability is often measured by the number of years that the company has been in business and the strength of its balance sheets. Larger, better established companies with healthy balance sheets and a long history of earnings usually display a higher ability to withstand and emerge from a bear market.
Two, bear market enthusiasts may also choose to invest in companies that manufacture or supply essential goods and services. This is because most often, the outlook for such products and services remains positive despite the economic, social or political environment that has caused the bear market. Essential goods and services include food, toiletries, mobile network services and internet services. People continue to consume these goods and services despite instability, uncertainty and chaos in economic, social or political environment. For instance wars in the past, economic meltdowns through history and more the current pandemic did not result in people giving up things like rice, bread or toothpaste.
Three, they invest in F&O Contracts... that is Futures and Options Contracts...and more specifically in Options Contracts that give the contract-holder the right to sell at a pre-determined price before a pre-determined deadline but place no obligation to do so. These are known as Protective Put Option Contracts. This move allows investors to mitigate their risks by fixing the lowest point below which they will not sell.
Alternatively if you feel more aligned with the diversion of investment capital strategy, mirroring the approach adopted by well-practiced investors who also swear by the play-it-safe proposition might prove beneficial. This approach involves investing in government bonds. Their logic is that government bonds are much less risky due to their nature of being debt instruments meaning that they represent a loan given by the investor to the government. Their strategy rests on two factors: they view the government as reliable - that is the government can be relied upon to pay the investor back. And second, there is the added attraction of a fixed amount of interest as agreed upon at the time of the bond being purchased or issued.
If you have adopted a rupee-cost averaging approach, any seasoned investor will tell you that a bear market is no time to stop buying. If an investor buys during market highs but backs away during market troughs, he loses the opportunity to lower the average cost that he is buying at. Tips for a successful rupee-cost averaging approach include:
One, identifying tracking and buying stocks that are historically strong and more likely to pay dividends (since bear market buying typically looks at long term holding).
And two, a diversified portfolio that is advisable in any case no matter what approach you plan to adopt.
The bear market puts great stress on investors and it is no surprise that many investors pull out all their capital. Some investors refer to this as the capitulation approach. This is done with the sole goal of minimizing losses from falling stock prices. However this approach too presents the risk of missing out on the rebound. For example, let's say Rahul and Rohit each bought 1000 shares of a stock at Rs 120 reach with a target sell price of Rs 125 per share. But then due to some unforeseen circumstances, stock prices - which all indicators said would rise - crashed instead. Rahul pulls out his investment when prices are at Rs 119, sustaining a loss of Rs 1000. Rohit decided to wait it out and sold his stock much later at his target price of Rs 125 per share, earning a profit of Rs 5000. If you have a stable income, sufficient savings and can afford to bear the risk, experts usually advise against pulling out your investment in a panic.
Whichever approach you decide to make your own, the risks of a bear market are very real. There is little certainty about when prices will turn around and to what degree.