You may have spotted recent headlines suggesting the US is officially in bear market territory, and wondered what that means and where we all go next.
Technically, the answer is easy. A bear market happens when an index falls 20 per cent from its peak, which is what the S&P 500 has now done.
On January 3, the index of top US stocks hit an all-time high of 4,796.56, but by June 16 it had fallen to 3,666.77, a drop of 23.55 per cent.
Europe has also slipped into bear market territory, with the Euro Stoxx 50 down 20.79 per cent since January 5.
But what does that mean for you?
It does not mean that your investments will have fallen by the same amount if you did the wise thing and built a balanced portfolio that contains bonds, cash, shares, gold, commodities and other asset classes.
Yet, you will almost certainly be poorer as 2022 has been a bad year for bonds and a disappointing one for supposed safe-haven gold, too.
If you went big on Bitcoin, which is down two thirds from its November peak, you will be really hurting. The same goes if you banked your future on electric car maker Tesla, which is down 41.22 per cent this year, or streaming service Netflix (down 69.58 per cent).
The war in Ukraine, energy shortages, rocketing inflation and rising interest rates are driving today’s bear market.
After the “everything rally” of the past few years, we are now witnessing an “everything sell-off”, says Arnab Das, global market strategist for the Europe, Middle East and Africa region at fund manager Invesco.
“It has now turned into one of the shortest, steepest and fastest reductions in wealth in ages, which calls for a bit of a rethink.”
As markets go into reverse, your own portfolio may have to adapt, too. “The time for concentration in long-dated growth, tech and US exposure may have passed,” he says.
Big US tech has driven the bull market of the past decade or so and it is also driving today’s bear market.
Resource-heavy “old economy” sectors such as oil, gas and coal miners have swung back into favour this year, but now that trend may soon be played out, so resist the temptation to start chasing it today.
What happens next depends on how central bankers respond and, in particular, the US Federal Reserve.
US Federal Reserve raises interest rate by 0.75 percentage points
On June 15, the Fed raised its benchmark interest rate by 0.75 per cent, in its most aggressive hike since 1994. Markets anticipate a slew of further rate hikes in the months ahead, which should curb inflation but at the expense of possibly dragging the US (and the rest of the world) into recession.
With luck, that will slow energy price growth and ease supply shortages, calming inflation and reducing the danger of a wage-price spiral, Mr Das says.
This process could happen faster than people think. If so, the bear market could be short and sweet.
Given the uncertainty, investors should resist the temptation to become too risk averse, but should strike a balance between protecting their wealth against resurgent inflation, while retaining exposure to a potential growth stock recovery as well.
Now that everything has sold off — aside from energy stocks — this is not the time to abandon risk altogether, Mr Das says. “Investors should aim for portfolio balance and diversification rather than full-blown bearishness.”
Bear markets do not run to a set timetable, history shows. Some are over in a few months, while others drag on for years, says Chaddy Kirbaj, vice director at Swissquote Bank.
“The 2011 bear market lasted just five months, from May to October, whereas the bear market after the dot-com crash ran for 31 months, from March 2000 to October 2002.”
Yet, all bear markets do have one thing in common: they do not last forever. After a time, sentiment improves, which means it pays to be patient, stay calm and avoid panic selling, Mr Kirbaj says.
You may also have to raise your game as the era of easy money, in the shape of near-zero interest rates and endless stimulus, is now over.
Instead of chasing the latest growth stock buzz, you need to dust off your stock-picking skills and examine company fundamentals instead. “Investors should turn their focus to companies with attractive valuations, strong business models and healthy balance sheets.”
Now is a good time to buy solid, well-run companies as valuations look fair and affordable compared with at the start of this troubled year, Mr Kirbaj adds.
This year’s dip makes now a good time to go shopping for shares, says Hamzeh Ajjour, group chief executive and co-founder of online brokerage 4T.
“Bear markets often provide opportunities to purchase good solid companies with great balance sheets at discounted prices,” he says.
“If your new year’s resolution was to build a stock portfolio, there is now an opportunity for you to do so 20 per cent cheaper.”
This may sound risky, but he argues: “If you have done your homework and analysis on why a particular company is worth investing in, then its value going down should not worry you because it means it is undervalued, giving you the opportunity to buy low.”
Today’s bear market is following a huge boom and stock markets are still trading above pre-Covid pandemic highs, Mr Ajjour says.
So, despite this year’s dips, most investors are still richer. “Avoid panicking over headlines and look at the wider picture,” he says.
While it may look grim and could get worse, this is no time to despair, says Paul Danis, head of asset allocation at wealth manager Brewin Dolphin.
“Equities are now much closer to the bottom of the bear market than they are to the cycle highs, we believe.”
Netflix stock plummets after loss of subscribers
Previous S&P 500 bear markets were of similar in magnitude to this year’s downside, suggesting the worst may already be over. “Even if we are heading for a recession, a lot of the bad news is arguably priced in.”
Mr Danis reckons global markets will start to look attractive if they fall another 5 per cent or so from here. “Longer-term investors with excess cash and the appropriate risk tolerance may want to think about trickling a portion of their money into the market now.”
The time to get really aggressive will come if the global economy enters a recession. History shows the stock market recovery typically gets under way three or four months before the economy starts to grow again.
In the longer run, shares are likely to outperform competing assets such as cash and bonds, but by a smaller margin.
Ageing global populations, the debt overhang and higher interest rates means investors cannot expect a repeat of the last dazzling decade, Mr Danis cautions.
“Longer-term equity returns will likely be weaker than investors have enjoyed over the past 40 years.”
The current bear market will eventually run its course — and maybe sooner than you think. Just do not assume that the next bull market will be as fun as the last one.
It will have to be built on proper economic fundamentals, rather than endless monetary and fiscal stimulus. And it will be all the better for it.
