By June 2022 the main indexes of U.S. stock had plunged at least 20% from their January 2022 peaks, meaning the market had tumbled into a bear market. However, on some days the market actually closed higher. In such circumstances investors naturally wonder if they are seeing a bottom of the bear market – and thus looking at a timely opportunity to buy shares at a discount. Here’s what Morgan Stanley thinks. Consider working with a financial advisor as you respond to the twists and turns of stock and bond markets.
What Is a Bear Market?
We can’t talk about bear markets without explaining how bull markets work. During bull markets, prices are either already rising or investors are feeling confident that they’ll see an increase in the prices of stocks, bonds, commodities or a different group of securities.
But in bear markets, the prices of securities in a key market index (like the S&P 500) have been falling by at least 20%. This isn’t a short-term drop like the one you’ll see during a correction, a time period when there are declines in prices by 10% or more for a few weeks or so. A bear market is a long-term trend that leaves investors feeling “bearish” or pessimistic about the outlook of financial markets.
That’s what happened in June 2022: From its peak on Jan. 3 of 4,796.56, the S&P 500 had fallen by June 13 to 3,749.63, a 21.8% fall. But along this downward path were some tantalizing upticks: the S&P 500 actually posted a 6% gain during one of the weeks in June.
Key Factors in Responding to a Bear Market Rally
Morgan Stanley says investors need to focus on three factors before they dive into a rally that occurs during a bear market: how the economy’s reopening is going; the state of consumer spending; and what full-year corporate profits will look like.
With mask mandates lapsing and social distancing becoming an unpleasant memory, the U.S. economy was clearly opening up after the COVID-19 shutdown. For example, air travel was on the rebound and durable goods orders for May came in stronger than expected. On the other hand, mortgage rates continued rising and, according to the National Association of Realtors, the median existing-home price in May soared 14.8% from a year earlier to $407,600. With mixed data like this, the actual state of the economy remained unclear.
Meanwhile, consumer sentiment remained low amid extreme inflation, and the Commerce Department said that in May retail sales lagged 0.03%, worse than the 0.01% decline analysts expected. When customers have to pay around $5 per gallon, income available for discretionary spending is being trimmed. For an economy that relies about two-thirds on consumer spending, weakness in the sector could indicate the bear market has further to go.
The weakness in retail sales threatened corporate profits. Wall Street analysts were expected to issue a slew of cuts in their second-quarter earnings estimates. The Federal Reserve’s drive to get inflation under control with big federal fund rate hikes and quantitative tightening put pressure on corporate revenues and squeezed profit margins. Morgan Stanley Research estimated there would be a 20% earnings decline, and the investment bank had a yearend price target of 3,000 for the S&P 500.
Actions to Take in a Bear Market Rally
A bear market rally is a great time to make sure your asset allocation reflects your time horizon and your risk profile, Lisa Shallet, the bank’s chief investment officer-wealth management, said. “Markets have moved very far, very fast given still high levels of uncertainty,” she said. “Rather than chasing those returns, now is most likely the time to stick with a longer term strategy to rebuild your exposure to risk while using volatility to your advantage.”
Secondly, maintain or begin dollar-cost averaging at consistent intervals. That’s the kind of investing participants in 403(b) and 401(k) plans practice. “That allows you to avoid the risk of putting a lot of money into the market just before a dip while reinvesting when stocks may still be relatively cheap,” according to Shallet.
Just as bull markets can suffer downside corrections, bear markets undergo corrections as well. Morgan Stanley warns against chasing a bear market rally, at least until you have clarity on the state of the economy, consumer spending and corporate profits. Meantime, focus on a disciplined approach to asset allocation and dollar-cost averaging, either on your own or through employer-sponsored plans.
Tips on Investing
- One of the benefits of working with a financial advisor is having someone who can temper an investor’s emotional responses to a bear market with objective analysis. Finding a qualified financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
- Use SmartAsset’s no-cost asset allocation calculator to get a quick estimate of how best to adjust your investment portfolio in light of your timeline and risk profile.
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