Seasoned investors have learnt to manage their risk effectively, gaining from their past experience. But, for novice investors the current trend may have caused enough damage to their confidence and may have prompted them stay away from the markets.
Expecting markets to provide benefits every time or always making gains out of investment is too optimistic.
Bulls and bears are the cycles that the markets experiences. In Bull run, the law of attraction favours investors, however the fact remains that the Bear markets offer more opportunity. One needs to realise this fact and stick to basics.
Bear markets are brutal when they hit. Ask any stock investor who was fully invested in stocks during 1973–1975, 2000–2002, or 2008. You relieve the pain from the carnage by vigorously pulling your lower lip up and over your forehead to shield your eyes from the ugliness. Fortunately, bear markets tend to be much shorter than bull markets, and if you’re properly diversified, you can get through without much damage.
For nimble investors, bear markets can provide opportunities to boost portfolio and lay the groundwork for more long-term wealth-building.
Here’s a check list an investor should follow to make bear markets very bear-able (and profitable).
Look for quality stocks
In a bear market, the stocks of both good and bad companies tend to go down. But bad stocks tend to stay down, while good stocks recover and get back on the growth track.
A dividend comes from a company’s net income, while the stock’s price is dictated by buying and selling in the stock market. If the stock’s price goes down because of selling yet the company is strong, still earning a profit, and still paying a dividend, it becomes a good buying opportunity for those seeking dividend income.
Know bond ratings
A bear market usually occurs in tough economic times, and it reveals who has too much debt to deal with and who is doing a good job of managing their debt.
This is where the bond rating becomes valuable. The bond rating is a widely viewed snapshot of a company’s creditworthiness. The rating is assigned by an independent bond rating agency (such as Moody’s or Standard & Poor’s). A rating of AAA is the highest rating available and signifies that the agency believes that the company has achieved the highest level of creditworthiness and is therefore the least risky to invest in (in terms of buying its bonds). The ratings of AAA, AA, and A are considered “investment-grade,” whereas ratings that are lower (such as in the Bs and Cs or worse) indicate poor creditworthiness.
Using exchange-traded funds (ETFs) with your stocks can be a good way to add diversification and use a sector rotation approach. Different sectors perform well during different times of the ebb and flow of the economic or business cycle.
When the economy is roaring along and growing, companies that offer big-ticket items such as autos, machinery, high technology, home improvement, and similar large purchases tend to do very well, and so do their stocks (these are referred to as cyclical stocks). Sectors that represent cyclical stocks include manufacturing and consumer discretionary. Basically, stocks of companies that sell big-ticket items or “wants” do well when the economy is growing and doing well.
However, when the economy looks like it’s sputtering and entering a recession, then it pays to switch to defensive stocks tied to human need, such as food and beverage (in the consumer staples sector), utilities, and the like.
Short bad stocks
Bear markets may be tough for good stocks, but they’re brutal to bad stocks. When bad stocks go down, they can keep falling and give you an opportunity to profit when they decline further.
When a bad stock goes down, the stock often goes into a more severe decline as more and more investors look into it and discover the company’s shaky finances. Many folks would short the stock and profit when it continues plunging.
Carefully use margins
Many investors don’t use margin, but if you use it wisely, it’s a powerful tool. Using it to acquire dividend-paying stocks after they’ve corrected can be a great tactic. Margin is using borrowed funds from your broker to buy securities (also referred to as a margin loan). Keep in mind that when you employ margin, you do add an element of speculation to the mix. Buying 100 shares of a dividend-paying stock with 100% of your own money is a great way to invest, but buying the same stock with margin adds risk to the situation.
If you’re going to retire ten years from now (or more), a bear market shouldn’t make you sweat. Good stocks come out of bear markets, and they’re usually ready for the subsequent bull market. So don’t be so quick to get out of a stock. Just keep monitoring the company for its vital statistics (growing sales and profits and so on), and if the company looks fine, then hang on. Keep collecting your dividend and hold the stock as it zigzags into the long-term horizon.
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