Prepare for the Bear, Whenever It Arrives

by Dean Eisenbraun

Legendary investor Sir John Templeton often reminded investors that bear markets are inevitable, and nobody can reliably predict their depth or duration. The current run for U.S. stocks is well past the av­erage bull market’s life of just over four years. The S&P 500 Index is hovering near its all-time high, and the September-October time frame has been prone to sell-offs.

This bull market does not ap­pear to have produced areas of ob­vious overreach like the 2000 tech stock mania or the mid-decade bub­ble in home prices and financing. But if the catalysts for bear markets were obvious in advance, it would be much easier to dodge the decline. That said, there are some steps to consider, depending on one’s age and investment objectives.

·         Check your diversification. There are market sectors that haven’t shot the lights out and display rela­tively low correlation to stocks. They may not be less risky in the near term, but their risk-reward equation may be more favorable.

·         Respect cash. There’s practi­cally zero yield these days on “cash equivalents” such as money market funds and short-term CDs. But with so many other asset categories hav­ing traded up, padding that cash po­sition may be strategic. In a broad financial market sell-off, cash lets you buy what’s really down without having to sell something else that’s also down, just not as much.

·         Don’t fear being a little bit wrong. What’s so bad about reduc­ing one’s risk even if the market does continue higher? This isn’t about bragging rights or the ability to predict market moves. It’s about measuring and managing risk from a position of strength and equanimity rather than fear and loathing.

·         Embrace the Bear. For long-term investors, market downturns can be welcome events, and the abil­ity to act rationally and timely can be very rewarding. Historically, in the early stages of bull markets, about 70% of the return comes in 50% of the time. The S&P 500 bottomed on March 9, 2009, then gained more than 37% in just the next two months. Missing that initial spurt would have knocked the cumulative bull-market gain through August from approximately 230% to 140%.

Only short sellers truly relish the prospect of a bear market. The trick is to accept its inevitability and treat it as just another phase in a dis­ciplined, long-term strategy.

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