Most of the world’s major stock indexes have fallen this year. This is the result of changing macroeconomic conditions, rising cost of raw materials, runaway inflation and war drums in Europe. The best-known indices in the United States, the S&P 500, the Dow Jones Industrial Average and the technology-rich Nasdaq 100, are down 18%, 14% and 26%, respectively, year-to-date. The question is can people make money trade in a bear market?
The answer is positive. In this article, we will share five tips to help our readers get the most out of a negative stock market cycle.
Table of Contents
1. Buy cheap quality stocks
There is a saying on Wall Street that during a crisis all correlations reach 1. While some may disagree that the markets are in crisis mode right now, stock performance this year suggests otherwise.
As a significant number of stocks lose more than a quarter of their value, some easy-hanging fruits can be found in the market that are sold out only because panic reigns.
These are companies whose basics and business model remain strong despite the current headwinds, but their valuations have suffered amid a temporary wave of negative market sentiment.
2. Focus on long-term returns
In the short term, volatility could lead to further losses even as investors focus on buying the most fundamentally undervalued businesses.
However, over the long term, the market tends to regain its composure and once again recognize profits and the ability of the business to generate cash flows. As a result, valuations usually return to or come close to the fair level at some point in the future.
Those who are patient enough to wait for the storm to die down can reap the benefits of the long term.
3. Don’t go against the Federal Reserve
Making bets that go against the trend of what Federal Reserve this is generally considered a bad approach in both bear and bull markets. At times when the central bank of the United States takes dovish action. These include cutting interest rates and flooding the market with liquidity. The odds are in favor of a bull market.
In turn, when the institution raises rates and squeezes liquidity, as it does now, the Fed’s actions set the stage for a bear market. Thus, investors may decide to increase the weight of their short positions. Up to the fact that they can exceed long ones in absolute and relative terms.
Meanwhile, investors can hedge their portfolios against a possible long downturn. This can be achieved by buying derivatives such as put options. This offsets some of the loss that their shares may suffer. That is if the market continues to move south with the profits generated from these instruments.
4. Ignore the noise, follow the signals
Bear markets will eventually end once market participants fully appreciate the impact of all the headwinds affecting companies in the global economy.
One good example of this is Pandemic crash of 2020. Then the market bottomed out in March. That’s when the Federal Reserve called on all of its reserves to avert a financial disaster.
No one knows what specific action could determine the final bottom for the markets in the current environment. This could be the end of the war between Russia and Ukraine. Or the Fed’s success in lowering inflation without the need for quantitative tightening.
In any case, investors should pay more attention to signals that the market has bottomed than to the noise created by the media and commentators. Because they can keep predicting the end of the world even when everything points to the opposite.
5. Don’t try to predict the bottom
One of the worst approaches when it comes to investing in financial markets is to try to “time the market”. This includes specifying the exact moment when a bull or bear market starts and ends. Hoping to make the most of the rally and avoid most of the losses caused by the recession.
Most research indicates that no one can accurately predict when the stock market will do something. Because there are too many variables to consider. In addition, the unpredictable nature of most of these events makes the task nearly impossible.
With that in mind, the best way to make money in the market is to keep investing and making tactical moves whenever it suits you. Also, implement adequate risk management protocols to limit losses as much as possible if things don’t go as expected.