I’ve been getting a flood of emails from acquaintances eager to buy digital currencies, calendar spreads (a complex options strategy), foreign currencies, penny stocks, and any company that claims to cure the virus.
In a bear market environment, when investors are understandably nervous, get-rich-quick investments will be peddled on the internet or by word-or-mouth. During such uncertainty, the last thing you want to do is dabble in any type of shaky and murky investment, especially if you have never done so before. To paraphrase Warren Buffett, never invest in anything you don’t understand.
Bear market characteristics
Right now, it is essential for investors to face reality and recognize we are most likely in a bear market. How do I know it’s a bear market? Although there are many definitions, I created my own: When the major U.S. market indexes drop below their 200-day moving averages, and stay below, the odds are good it’s a bear market (there have been just a few exceptions to this strategy).
If the Standard & Poor’s 500
for example, can climb back to 3015, which is its 200-day moving average, and stay there for a period of time, it is worth considering going long. However, because the Fed is behind the rally, because the economy is in so much trouble, I would be cautious about buying even the S&P 500 did reach 3015. I would give it a week or two, if not longer, to sustain that level. There is no rush to buy. There is no reason to be first. Typically, bear markets see a rally like this, and typically, it fails.
Therefore, as long as the major indexes remain below their 200-day moving averages, treat it as bear market. That means in the short-term, stocks will be volatile and unpredictable.
Even in a bear market, there are occasional stunning rallies (often fueled by the Fed pumping up asset prices with ungodly amounts of money). Any future rallies should be treated with suspicion (such as last week’s rally, the best in 45 years) as they are unlikely to last for long. In fact, some of the strongest rallies have occurred during bear markets.
Investing rules for a bear market
1. There will be fantastic bargains in the future, but it’s still too early to go all in. If this is a typical bear market, it’s likely to last six months to two years.
2. Most investors are wise to sit on the sidelines and prepare for the next bull market. Most important, don’t be fooled by the bear market rallies that zoom higher for a few days, and then fail. They often sucker bullish investors into buying, usually right before the next plunge.
3. Sitting on the sidelines and patiently waiting for a better time to invest in strong stocks that are going through temporary rough patches is not a bad strategy. There is no rule that says you have to be 100% invested in stocks, especially during a bear market. Consider diversifying into less risky assets such as cash and short-term bonds.
4. Most investors know it’s ideal to buy low and sell high. Nevertheless, few investors are willing to take a chance and buy the most shunned stocks at bargain prices. Consider the airline or oil sectors, for example. You’ll need to be patient as these sectors won’t recover anytime soon.
5. Once the major indexes rise above their 200-day moving averages, it might be time to consider buying your favorite stocks. Do not be in a rush to buy, at least until there is a strong and long-lasting uptrend. Although buying low sounds great, it’s risky to enter too early.
6. Hoping that your losing stocks come back to even is not an investment strategy. There is nothing wrong with selling losers and reinvesting what’s left into stocks with more potential. The losses have already occurred. Be on the lookout for a better opportunity.
7. Wait for the “for-sale” signs to appear. Every bear market is different; no one can predict how long this one will last or how low it will go. Although investors desperately want the bear market to end quickly, patience and a cool head is required. This is the time to study, read, and wait for your pitch. Judging by previous bear markets, we are still in the early innings of a long and painful ballgame with many twists and turns.
Michael Sincere (michaelsincere.com) is the author of “Understanding Options 2E” and “Understanding Stocks 2E.”