The origin of the term ‘bear’ in financial parlance stems from the proverb that warns: “not to sell the bear’s skin before you have caught the bear”. This was applied to short sellers in the South Sea bubble in the 18th century and means someone who believes prices will fall. When applied to the stock market, it is one that has fallen 20% from its recent high.
In the US, the tech-heavy Nasdaq index is currently in a bear market, down -27% from its high in December 2021. The broader S&P500 index is down -18% and arguably headed for a bear market too. But being in a bear market is just a label to describe the current market environment – the question for investors is: how long does it last?
The two most recent bear markets for equities were the Dotcom crash in 2000 and the Global Financial Crisis in 2007. The Dotcom crash lasted 18 months, during which the S&P fell 57%; the GFC bear market lasted two years and the S&P fell 49% in that time. But markets do not move in straight lines, and in each of those periods, there were six rallies of more than 6% and as much as 23%.
So, what ends a bear market? Either a pivot by central banks towards looser monetary policy, historically by cutting interest rates, but also more recently through the injection of liquidity into the market via quantitative easing. Or a sustained upswing in economic growth.
The issue is that inflation in the United States is running at a rate several times higher than the Federal Reserve’s target of 2%. Until the Fed sees inflation clearly coming down towards target, it is unlikely that it will alter course. And the Fed is trying to reduce inflation by restricting economic growth through tighter monetary policy.
Inflation already appears to be peaking in the US at 8.3%, but how quickly it falls back to target is critical to the end of this bear market. Only then can the Federal Reserve ease off on tightening monetary conditions and hopefully allow economic growth to recover. Until then it is wise to treat rallies in the stock market with caution.
So far in 2022 the S&P has rallied +6% and +11%, while overall falling 18%. It is possible to try and trade these rallies, but at Tellsons we remember Ken Fisher’s observation that “time in the market beats timing the market.” For example, just missing the S&P’s best-performing day between 1970 and 2019 would have reduced a total compounded return of 13,791% by one-tenth (or 1,441 percentage points).
With this in mind, we have shifted our equity allocation in the Endeavour Fund away from pro-cyclical stocks towards higher-quality, more stable defensive stocks. But the investments we still hold in growth and cyclical sectors should perform well in any rally, especially from the market bottom.
Beyond equities, the repricing of the bond market this year means that yields close to 4% are at a level where our bond holdings offer attractive returns and much needed diversification to falling equity markets. Safe haven currency exposure can also be highly effective at protecting investments from the worst of market stress.
Perhaps above all, being active is a great advantage over passive during these periods as we can select companies that will relatively outperform in a slowing economy. We can be overweight defensive sectors, such as healthcare and consumer staples, while being underweight technology stocks and the more discretionary drivers of consumer demand.
Bear markets do not last forever – but the Endeavour Fund is positioned should inflation persist in keeping the bulls at bay.
IMPORTANT INFORMATION: TELLSONS INVESTORS LLP DO NOT GIVE INVESTMENT ADVICE SO YOU NEED TO DECIDE IF AN INVESTMENT IS SUITABLE FOR YOU. IF YOU ARE UNSURE WHETHER TO INVEST YOU SHOULD CONTACT A FINANCIAL ADVISER. ANY RESEARCH OR ARTICLE PRESENTED AS NEWS OR INFORMATION SHOULD NOT BE CONSTRUED AS INVESTMENT ADVICE. YOU SHOULD NOTE THAT CAPITAL IS AT RISK WITH ANY INVESTMENT AND YOU MAY GET BACK LESS THAN YOU INVESTED. PAST PERFORMANCE IS NOT A GUIDE TO FUTURE PERFORMANCE.