Wall Street’s nearly 10-year-old bull is on the ropes. A dreaded bear market, while not quite official yet, is closing in.
While the Standard & Poor’s 500 stock index’s nearly 16 percent drop from its September high of 2930.75, hasn’t reached the 20-percent threshold normally used to declare an official bear, the financial fallout is sizable enough to make it feel like a bear.
Day after day of big losses and regular daily swings of 500 points or more in the Dow Jones industrial average – not to mention the market’s worst December since 1931 — all are symptoms of a struggling market.
“Bear market or not, this is an ornery beast for investors to deal with,” says Joe Quinlan, chief market strategist at U. S. Trust.
And “it’s going to stay ill-tempered,” Quinlan adds, until investors get clarity on the growth trajectory of the U.S. and global economy, and where inflation and interest rates are headed.
“There is still downside to wring out of the market,” he says.
What’s a bear market?
So what is a bear market? It is a period of declining stock prices in which a broad market gauge like the S&P 500 falls 20 percent from a prior high. Bears normally are caused by a recession, wildly optimistic investors, ridiculously overpriced stocks or interest rate shocks that cause economic contractions. These downdrafts are normally accompanied by rising investor fear levels as losses mount.
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The latest leg down in the current sell-off was sparked by the market’s disappointment with the Federal Reserve decision Wednesday to hike interest rates for a fourth time this year and signal two more hikes in 2019. Wall Street was hoping the Fed would say they are done raising rates.
This week’s market slide is analogous to a kid’s “temper tantrum,” Mark Arbeter, president of Arbeter Investments told USA TODAY.
“When the market in a downtrend doesn’t get its way,” he explains, “it throws a temper tantrum, which equates to dumping stocks indiscriminately.”
These steep sell-offs typically mark the end of good times. On average, these bear market drops, which are feared by investors, last 21 months and result in 40 percent declines, according to an S&P Dow Jones Indices analysis of the 13 S&P 500 bear market since 1929.
The continued slide in stock prices means the pain in investor portfolios is spreading and adding up to real money. An investment of $100,000 in the S&P 500 at the market peak in September, is now worth about $16,000 less.
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After more than a decade of rising stock prices aided by cheap money and zero percent interest rates provided by the Fed, the market is undergoing a violent shakeout. That’s because the central bank has started draining stimulus from the system, and that pushes rates back to more normal levels.
Less support from the Fed, investors fear, will thrust the economy, which grew at a 3.5 percent rate in the third quarter, into recession and cause profits of U.S. companies to shrink.
Few stocks have been spared from the rout.
Sixty percent, or roughly 300 of the 500 companies in the large-company stock index are already down 20 percent from their high, which puts them in bear market territory, according to Bloomberg. The list of companies already mauled by the bear reads like a Who’s Who of American business: General Electric; Federal Express; Facebook; Ford; Apple, Amazon, Home Depot and Target, to name a few.
Spreading pain in stock market
The market gloom is even more widespread than investors might realize. Small-company stocks, measured by the Russell 2000 index, which is often viewed as a proxy for how much risk investors are willing to take, have already slipped into bear territory.
So has oil. So has the Dow Jones Transportation average. So have six of the 11 S&P sectors. These 20-percent-plus drops now dotting the U.S. investment landscape follow earlier drops of this magnitude overseas, in stock markets ranging from Shanghai, China, to Frankfurt, Germany. The technology-packed Nasdaq, down 19.5 percent from its late August record high, briefly slipped into bear market terrain Thursday.
The list of worries confronting investors is growing, and that’s causing stock prices to tumble as investors price in more risks.
The Fed’s latest rate decision has raised fears that rising borrowing costs will turn out to be a policy mistake that will deliver a knockout blow to the economy. Add to that the prospect of a partial U.S. government shutdown Friday at midnight, the fallout and uncertainty tied to the U.S.-China trade fight, the massive plunge in U.S. oil prices and slowing growth in key global economies like Europe and China, and the case can be made for investors taking less risk in their stock and 401(k) portfolios.
A number of high-profile Wall Street pros have already declared the return of the bear.
Michael Wilson, equity strategist at Morgan Stanley, is calling the rout a “rolling bear market.” Jeffrey Gundlach, the so-called “Bond King” and founder of investment firm DoubleLine Capital, told CNBC a few days back that “I’m pretty sure this is a bear market.”
Bank of America Merrill Lynch’s global strategist Michael Harnett agrees, but says the bear market is “global” in nature. Even ex-Fed chairman Alan Greenspan, who alerted of “irrational exuberance” in the stock market 22 years ago, recently warned that, while stocks could still rise from current levels, investors should “run for cover” when this bull eventually ends.
How bad can things get?
It is impossible to predict how far stocks will fall and when they will hit bottom. But a review of past bear markets provides a guide of what investors can expect.
First the good news. While the average bear has sliced 40 percent off of the S&P 500, some bears are more tame by comparison. In the 1990 bear, the market fell exactly 20 percent before rebounding. And the bears in 1956-57 and 1966 both suffered losses of less than 22 percent, according to S&P Dow Jones Indices.
However, the past shows bear markets can create far more destruction. In the 2007-09 bear set in motion by the 2008 financial crisis, the S&P 500 cratered nearly 57 percent. And after the Internet stock bubble burst in 2000, stocks fell 49.1 percent.
And while this December’s steep stock decline is the worst since the Great Depression, it would take a true market collapse for the S&P 500 to match its record-setting 86.2 percent mauling it suffered from 1929 through 1932.
What will stop the market from going down?
Bear markets, or intense periods of selling, normally end when investors get so scared that everyone who wants to sell does so, providing a safer entry point for buyers. A peak in panic is also a signal, as is a belief that prices have fallen to bargain levels.
Markets might also rebound once investors get proof that their fears of an imminent recession are disproved by the incoming economic data, and there are signs of progress in trade talks between China and the U.S., Bank of America Merrill Lynch research says.
“History shows data resilience can help stop the panic in the market,” the bank said in its weekly economic viewpoint.
What’s an investor to do?
Navigating a bear market is treacherous, as once the declines have reached 20 percent, there’s always a chance that the worst of the drubbing has already occurred; yet nobody can say whether the current plunge will morph into a major rout of more than 40 percent.
And timing the market is a difficult strategy to execute, market pros say.
Long-term investors, or those saving for retirement 15, 20 or 30 years down the road have less to stress about than Americans closer to retirement. Bear markets of the past look like blips on stock market charts that show steep rises over long periods of time. This recent bout of volatility, no matter how bad it gets, will also likely be long forgotten by the time investors retire in 2030, 2040 or 2050. Buying stocks when they are way down from their highs could prove profitable over the long run.
Investors have to “think long term,” says Quinlan of U.S. Trust. He advises investors with time to ride out market storms to focus on long-term trends that will fuel gains in the years ahead. He recommends investing in companies that can profit from the “global longevity boom,” the increasing reliance on automation and new technologies, such as robotics and artificial intelligence, as well as stocks focused on combating the cybersecurity threat.
For those who need access to their cash sooner, however, it might make sense to dial back some of your risk exposure to stocks.
One strategy is to take some losses now and use those losses to offset income on your tax return, and put the proceeds of the stock sales into a money market account.
The truth is, that in the short term, when stock prices are in free fall, cash is the best line of defense. Cash not only protects you from a declining stock market, it now offers far more competitive yields following nine interest rate increases from the Federal Reserve since late 2015. Investors can now earn 2.25 percent on a money market account, according to Bankrate.com.
Cash should be viewed in a more positive light now, says Barry Bannister, equity strategist at Stifel Nicolaus.
“Cash is always king in major corrections or bear markets,” he told USA TODAY, adding that “virtually all assets were down the past year, except cash. This is very rare.”
And with interest paid on cash rising and more competitive with other investments, such as bonds, investors shouldn’t minimize the benefit of holding it, Bill Hornbarger, chief investment officer at Moneta Group, told USA TODAY.
“Now cash is a viable investment,” he says, “especially for nervous investors that want to protect stock market gains from the last 10 years.”