If you invest for many years, you’ll eventually encounter both bull and bear markets. Although you obviously prefer seeing the bull, you may actually learn more from the bear — and when it’s “hibernating,” you can put these lessons to good use in making investment moves for the future.
Here are some of the key “bear market lessons” to consider:
• Purchase quality investments. A bear market tends to drag everything down with it. But quality investments — those with strong fundamentals and good prospects — have the potential to bounce back quickly once the bear market ends. That’s why you’ll want to consider owning these quality vehicles in all investment climates. In fact, try to avoid owning investments today that you wouldn’t want to own in a bear market tomorrow.
• Maintain realistic expectations. Many investors look back fondly at the mid-to-late 1990s, when we frequently experienced double-digit stock market returns. Unfortunately, these results “raised the bar” in terms of what investors expect, and these elevated expectations led to problems for people whose long-term financial goals were based on overly optimistic projections. By anticipating more modest returns, you’ll be able to set more realistic, achievable goals. At the same time, don’t be surprised at the recurrence of bear markets, which are a normal part of the investing process.
• Know your risk tolerance. If you find yourself losing sleep over the fate of your investments in the midst of a bear market, you may need to review your risk tolerance and adjust your portfolio accordingly. But keep things in perspective. Instead of fretting over daily or monthly downturns, ask yourself this: “How much can I afford to lose and still meet my financial goals, such as achieving a comfortable retirement?” You’ll come up with different answers at different stages of your life.
• Base investment decisions on principles, not predictions. Everybody can make investment predictions, and they usually do. But many of these prognosticators have poor track records. So, instead of acting on predictions, base your investment decisions on principles, such as buying quality investments, maintaining a long-term perspective and diversifying your portfolio. While diversification can’t guarantee a profit or protect against a loss, it can help reduce risk when the market is volatile.
• Maintain adequate liquidity. If you are planning on cashing out a long-term investment to pay for a major expense, such as a down payment on a home or college tuition for a child, you could run into difficulty if a bear market is raging and the value of your investments have dropped. To avoid this problem, maintain a portion of your portfolio in liquid investments. Although these vehicles won’t provide you with a high return, they offer greater preservation of principal — which is just what you need when you need the money now.
• Look for good investment opportunities. During a bear market, you can almost always find quality investments. While their prices may be down, these investments can still offer good growth potential — and typically, the best time to buy them is when their value is down.
By following these lessons, you can prepare yourself for a bear market — and help avoid getting “clawed” by it.
