Broker Check
Bull and Bear Markets Explained

Bull and Bear Markets Explained

January 16, 2024

Bull Markets Vs Bear Markets

Bulls, Bears, and Whales

You are attending a family gathering and are catching up with relatives. Someone mentions we are on the cusp of a "bull market" and you nod your head in agreement with everyone but your brain is drawing a mental picture of an angry bull running down an unlucky chap. You know you heard the term in your economics class in college but have trouble remembering if it is a good thing or a bad thing. You also think you heard them talking about it on CNBC when you walked by a TV at work. Or was that when you were watching "Farmer Wants a Wife?" 

Here is my personal trick for remembering the difference; most people know that New York has a bronze statue of a Charging Bull near the financial district. They placed this statue there because investors like bull markets as it is a sign of optimism in finance. I guess the other method to remember would be to think of which would you rather face in a fight, a bull or a bear to which the obvious choice would be a bull? Whatever your method for remembering, bull markets mean stocks are up, bears mean they are down.  

What is a Bull Market?

The definition of a bull market is when stocks rise 20% from their most recent low point. For simplicity's sake. let's say the S&P 500 had it lowest recent mark of 1,000. If it were to increase up to 1,200, we would say that we entered into a bull market.

During a bull market, there is a general sense of confidence in the market and prices are on an upward trajectory. Economic indicators (eg unemployment, GDP) reflect industries as a whole being in a healthy spot, and company earnings reports are overwhelmingly positive. News outlets will be shouting at you how much growth the market will see leaving you with a strong sense of FOMO and in the next segment tell you a recession is on the horizon. The sky is blue, the sun is out, and it feels like the good times will last forever. 

What is a Bear Market?

Ying and yang. Light and dark. Hot and cold. A bear market is the inverse of a bull market. A bear market is when stock prices drop 20% on average from a recent high point. If the S&P had a recent high point of 1,200 and then dropped 20% to 960 then we would enter into a bear market. 

Bear markets are characterized by feelings of foreboding and fear. We saw a bear market in 2022 so these feelings should be fresh in your mind. With prices declining, people can enter into fear mode where they don't want to see their investments sink any lower so they sell off to stop the bleeding. The financial news is even bleaker than usual stating this will be the worst recession in history even though they said the same things during a recent bull market. People want to hoard their cash and look towards recession-proof investments like precious metals (gold, silver, and platinum are popular) that typically perform well in this environment. If you are at or near retirement, these feelings can feel even stronger. 

Bull and Bear Market Causes

Now that you understand how to identify a bull or bear market, we will dive into the murkier end of the pool of trying to understand what causes them. While there can be valid reasons for these shifts, they can be as vast as a celebrity's wardrobe.

For starters, the state of the economy usually has a bearing on where the stock market goes. The main piece to understand is that the stock market is forward-looking. A lot of analysis goes into trying to estimate where individual companies, segments, or the market as a whole is headed by looking at trends related to various metrics and calculations. Just because the economy looks healthy doesn't mean markets will follow suit. Cracks in the hull can lead folks to jump ship long before it sinks. 

The recent bear market we saw was in large part due to inflation and interest rate hikes. I wrote about this in a recent blog article so I won't go into too much depth but higher than desired inflation usually causes the Fed to increase interest rates. By making it more expensive to borrow money, companies are less likely to take out loans which in turn stifles growth. Less growth at companies can mean less growth in the stock market. 

Another example would be a health crisis, like the COVID-19 pandemic. That event was a bear/bull bonanza (proud of my word choice here). This is likely the only event of it's kind we will ever see. It was historic in every way and if you blinked you missed it. Between February 21-March 20 2020, the S&P dropped almost 31%. Between March 20-June 5 2020, it increased 38%. Talk about a roller coaster of a 4-month stretch. I could spend all day detailing the nuances of how this all came to be but just know that fear makes for some interesting market trends. 

Beware of the "Bubble"

If you have spent any time researching investing, you have likely heard the term "bubble" once or twice. A bubble is when a bull market turns into an unrealistic surge in prices followed by a sharp decrease where prices drop considerably. I mention this because it is the living embodiment of FOMO (fear of missing out). People hear about all the money being made and come running to throw their money into the fray. Unfortunately for them, that just isn't how investing typically works. 

A recent example (depending on your age) was the "dot-com bubble." The internet was taking off and with it so was any stock even remotely related to it. Just as we were all starting to get used to our mom's telling us to get off the internet so she could make a phone call (if you get this reference, you're old), the market collapsed. The takeaway is that you should always have a healthy level of skepticism when it comes to bull markets. If it feels like it is too good to be true, it probably is.  

Investing in Bull and Bear Markets

There is not a cut-and-dry way to ensure you make the most of either of these markets. In an ideal scenario, you would ride the wave of bull markets by investing early before it hits its high point, sell, and then wait for the market to contract into a bear market before buying again. The problem is this is nearly impossible to do. 

By investing a fixed amount of your cash in consistent intervals (eg. $500 every month), you can reduce the impact volatility can have on your portfolio. You buy more shares when prices are down and fewer shares when prices are up. In a simple example, say we take our $500 to buy a stock that is $100 per share. We would be buying 5 shares a month. If it were to drop down to $50 per share, we would be able to buy 10 shares per month.

I also like the way this trains people to develop the habit of investing on a consistent basis which is one of the common traits I see in successful investors. I stress that the behavior is more important than the amount, especially at the start. There is no stronger motivator to invest more than when you start to see your investments increasing so it tends to make its own gravy, per se. 

Cut The Bull, Embrace the Bear

The market does what it wants. Many have tried and most have failed at trying to pattern these trends and guess what they will be next. We as humans tend to be short-sighted and rely on recent trends/news/feelings to attempt to make decisions. Investing is typically a long game that spans years if not decades. The best way to make decisions is by zooming out to this level and remembering that no matter how good or bad things seem, they are likely to change. Bear markets are a near certainty so when they come around, learn to accept them and realize they can be large opportunities. 

Focus on the things you can control. This means understanding when you are making decisions based on your emotions (oh no! My investments are down 20%!) and when you are using logic (my investments are down 20%? This seems like it could be a great time to invest more!). The average length of a bear market is a year while the average bull market lasts around 7 years. Remember this the next time you see that bear on the screen during Mad Money.