Understanding The Stock Market: How To Make Money Even In A Bear Market

Fighting the instinct to run away from a bear market might be one of the soundest financial decisions you can make. Actually increasing your investment can turn out to be an even better decision. Of course, whenever the words “bear market” are used, people cringe and picture plummeting stock values, and panicking investors. While this is certainly true, there’s also another side to bear markets, and if you pay attention to the history of the stock market and to economic theory (which shows that cycles of bull markets and bear markets occur with regularity and persistence), you might very well realize that bear markets can bring about tremendous opportunities to make money – IF you can get to grips with the fact that it’s going to take you a couple of years to realize those gains.

Bear Market Definition

A bear market is a prolonged period in which investment prices fall, accompanied by widespread pessimism. According to The Vanguard Group, “While there’s no agreed-upon definition of a bear market, one generally accepted measure is a price decline of 20% or more over at least a two-month period.” If the period of falling stock prices is short and immediately follows a period of rising stock prices, it is instead called a stock market correction. Bear markets usually occur when the economy is in a recession and unemployment is high, or when inflation is rising quickly. The most famous bear market in U.S. history was the Great Depression of the 1930s.

Effects Of A Bear Market

Truth is, nobody likes a bear market. The Dow Jones Industrial Average dips more than 30% on average, the downward trend usually lasts over a year, and it often takes the market at least another year to recover. But like I said earlier, despite all the pessimistic financial news that they often bring about, bear markets can be tremendous buying opportunities.

According to a study by Ibbotson Associates for the Wall Street Journal of the bear market of 1973 and 1974 (the worst we had experienced since the Great Depression before experiencing the current bear market), the Standard & Poor’s 500 stock index had lost 43%, even accounting for reinvesting dividends, and the index didn’t reach its 1972 level for a good four years, in 1976.

Making Money In A Bear Market

Despite those figures, people who had steadily invested in stocks would have achieved interesting returns. Let’s suppose that, out of fear, you had invested your money in super-safe Treasury Bills over the same period. Well by January 1976, someone who had invested in stocks at the same clip you had would have come out ahead by January 1976, which is not negligible considering that T-Bills were, at the time, paying a quite decent 6-7% a year.

The aforementioned analysis assumed a monthly $100 investment in stocks beginning in January 1973. When the market hit bottom in September 1974, the investor would have invested a total of $2,100 and held stocks worth less than $1,500. But seven months later, the investor would have been about even with the $2,800 that he or she had invested in total over the period. And by the first quarter of 1976, as the stock market was just returning to its previous high, the investor would have had more money than if he or she had invested $100 a month in T-bills.

Despite the brief 1979 dip, the long-term prospects remained favorable. By the end of 1992, the investor’s $24,000 total investment would have been worth $124,000, which is more than twice the $54,000 it would have earned in Treasury Bills.

Now you may say that these are numbers from 30 years ago, and you’re be (partially) right. But the fact of the matter is, if history is any indication, sooner or later the market will bounce back and you might be kicking yourself then for not having taken advantage of the current stock market trend that’s producing low stock prices.