Don’t fear the bear

A bear market is defined as a sharp, prolonged stock market decline, usually 20% or more, almost always triggered by unexpected events or economic conditions. So investors can frequently be caught off guard and react to media reports emphasizing uncertainty and worst-case scenarios.

Kate Warne (Ph.D., CFA) is an Investment Strategist

[Edward Jones]

Meeting a real bear might be a surprise, but as the table below shows, if you’re a long-term investor, you’ll almost certainly experience many bear markets. When investing, we recommend you keep the following in mind: Stock market declines are common, occur without warning, end as unexpectedly as they begin and can present opportunities for long-term investors to buy quality stocks, equity mutual funds and segregated funds at lower prices.

Source: Ned Davis Research, 1/3/1977 to 12/31/2014. Past performance is not a guarantee of future results. The Canadian Stock Market is represented by the S&P/ TSX Composite. The TSX is an unmanaged index and cannot be invested into directly. Further distribution prohibited without prior permission. Copyright © 2015 Ned Davis Research, Inc. All rights reserved.

Not all bear markets are alike

The most recent bear market ended in 2009. In a rare occurrence, this bear market occurred very close to another bear market. The TSX declined nearly 50% from its high in June 2008 – was briefly interrupted by a bull market – and was followed immediately by another bear market that declined by 20%. The recent bear markets were harsh but reasonably short; combined, they lasted less than the historical average of nine months. While you might think it’s prudent to prepare for another severe bear market, realize that only three of the 12 bear markets since 1956 had declines of 40% or more.
In addition, severe bear markets tend to be followed by sharp rebounds. In two of three cases when stocks dropped by 40% or more, they rebounded by more than 50% during the first year of the upswing. Whether they’re severe or mild, long or short, bear markets tend to recover just as abruptly as they start.

What bull and bear markets look like

The chart below shows bull and bear markets for the S&P/TSX Composite Index (TSX) since 1956. The green-shaded areas above the line are bull markets, and the red-shaded areas below are bear markets – a decline of more than 20%. You’ll notice that bear markets are shorter than bull markets. On average, bear markets last about nine months with an average loss of about 32%. Bull markets, on average, last about four years (47 months) with an average gain of about 103%.* As you can see, bear markets eventually come to an end, which is one reason why we recommend you stay calm and invested.

Source: Edward Jones calculations, Bloomberg, Morningstar, S&P/TSX Composite as of 12/31/2014. Past performance is not a guarantee of future results. The TSX is an unmanaged index and cannot be invested into directly.

Don’t try to outrun a bear

During and immediately after market declines, there’s temptation to sell quality stock and bond investments in hopes of avoiding further declines. Commodities, investments promising to “hedge” market risk and other alternatives often become popular after poor stock market performance.

You should avoid jumping into or out of the stock market. Instead, we believe investing is about time in the market rather than timing the market. By trying to time the market, you risk missing out on some of the best days, weeks and months. We believe buying investments when you have the money available and staying invested gives you the best potential to achieve success.

Missing the 10 best days over 38 years would have reduced the annual gain from an investment in the TSX from 7.3% to just 5.4%. Below is an example of how returns can be reduced if you miss some of the best days in the market.

Sources: Bloomberg, Edward Jones calculations. 12/31/1976 – 12/31/2014. These calculations assume the best days, as defined as the top percentage gains for the S&P/TSX Composite for the time period designated, would not be included in the return.of future results. Excludes dividends. These calculations do not include any commissions or transaction fees that an investor may have incurred. If these fees were included, it would have a negative impact on the return. The S&P/TSX Composite Index is unmanaged and cannot be invested in directly. Past performance is not a guarantee of future results.

Many will argue that if you had missed just a handful of the worst days, returns would have been just as good. This might be true, but predicting the worst days is just as difficult as predicting the best ones, and they frequently occur near each other. Staying invested can help ensure you don’t experience the worst while missing the best.

Prepare; don’t predict

We’re not predicting when a bear market will occur. However, by owning quality investments in appro- priate amounts and diversifying them, you can be better prepared to weather periodic bear markets regardless of when they may occur.

Use the bear to your advantage

Bear markets provide long-term investors with the opportunity to buy quality investments at a lower price. Generally, the lower the price you pay for a quality investment, the higher your potential investment return over time. This advice is especially true for market dips (5% declines) and corrections (10% declines) when the long-term outlook for quality stocks and mutual funds may have changed much less than the drop in price. Rebalancing your portfolio back to its target mix of investments (also called your “asset allocation”) is a way to use bear markets to your advantage.

If you’re taking income from your investments, it’s still possible to use a bear market to your advantage by rebalancing to help reduce its impact. While it can be difficult, consider temporarily reducing your income slightly by delaying spending so that you leave more invested while prices are low. That can help your investments recover during the following rebound.

Take action to survive the bear

We believe your success as an investor may depend on your actions during a market decline. Make an appointment with your Edward Jones advisor to develop a portfolio that can help you reach your long-term goals through rising and falling markets.

Try to stay calm

Bear markets are usually frightening. The stock market decline can be dramatic, and it seems that there’s no end in sight. In addition, you’ll hear a lot of predictions about how much lower stocks could go. In every bear market, the rebound has occurred unexpectedly – usually when the outlook appeared bleak. While it may be more difficult in bear markets, we recommend trying to stay calm and to ignore extreme predictions of doom and gloom.

Para mais informações, consulte a estrategista financeira Paola Wortman, pelo e-mail paola.wortman@edwardjones.com ou pelo telefone 905-808-4573.

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