4 sectors — and three rules — to help you survive a bear market
The major indexes are nearing a bear market as Russia’s invasion of Ukraine and expected interest rate highs weigh on investors. Here are some rules and investment ideas that might help you get through.
Investors are growing increasingly bearish, and it’s showing across the markets.
The S&P 500 is down 13.3% so far this year. The Dow Jones Industrial Average (DJIA) has retreated 11.3%, while the tech-heavy Nasdaq Composite has fallen 18.7%.
The American Association of Individual Investors (AAII) has been releasing a weekly survey since 1987 that measures the mood of individual investors, and since the new year, investor sentiment has shifted dramatically.
According to the survey, 37.7% of respondents were bullish the week ending December 29, 2021, versus 30.5% bearish and 31.8% neutral. For the week ending February 23, 53.7% are bearish, versus 23.4% bullish and 22.9% neutral.
The shift in sentiment came as the Federal Reserve took on a hawkish stance in December, when it signaled several rate hikes would come in 2022 to combat inflation.
Russia’s invasion of Ukraine Thursday may have been the last straw that sends the stock market into a full-fledged bear market. But don’t panic. Here are some tried and true rules to help you get through.
What’s a bear market again?
A bear market is technically when market prices fall at least 20% from the most recent high over a prolonged period, usually two months, often accompanied by negative investor sentiment.
The S&P 500 and DJIA are in correction territory, which is when a stock index falls by more than 10%. The Nasdaq is down nearly 20% from its November high, which defines bear territory.
For investors who entered the market after former president Barack Obama entered the White House, this could be the first lengthy bear market.
But while investor confidence may be taking a hit — nobody enjoys watching their portfolio value go down — there are opportunities to put money to work.
That’s what Brian Colvert, certified financial planner and CEO of Bonfire Financial, said when asked about investing in a bear market.
“While the words bear market may make investors squirm, these market downturns are inevitable yet relatively short compared with the length of bull markets,” Culvert said. “It is good to remember that bear markets can, in fact, provide opportunities.”
Here are some rules to follow and sectors to consider when investing in a bear market.
3 basic rules for investing in a bear market
First off, don’t do anything drastic.
1. Avoid knee-jerk reactions
In his acclaimed book on investing, The Intelligent Investor, Benjamin Graham wrote that the investor’s main problem is likely to be himself. In other words, investing without the proper emotional and mental attitudes can lead to regretful investment decisions.
Whether greed or fear, investing based on emotion is one of the main reasons why so many people buy near the top and sell near the bottom.
“The best advice is to avoid knee-jerk reactions,” says Colvert. “Bear markets test even the best investor’s resolve. Many have lost it all trying to time the markets. Use this time to revisit your time horizon and risk tolerance.”
So instead of selling out of fear, return to your investment plan to determine your next move. What’s right for one person may not work for another.
For instance, investors with a short time horizon may consider the most extreme, but safest, option of cashing out entirely from the stock market. This means selling all your stocks and either holding cash or investing the proceeds into much more stable financial instruments, such as short-term government bonds.
According to investment management company Invesco, the average length of a bear market going back to 1968 is 349 days. Generally speaking, money you’ll need within a year should be held in cash or cash equivalents. If we are indeed entering a bear market and you need the money from your stocks within a year, cashing out at least what you’ll need might be the best option.
But for investors who have plenty of time on their side, selling your holdings could be a monumental mistake. Not only could the market turn around and not slump any lower, for long-term investors, falling stock prices and depressed markets work in your favor. Particularly if you keep investing at lower prices.
2. Don’t sell your long-term stock winners
While nobody likes to see a depreciating portfolio, solid stocks can drop in price without the underlying fundamentals changing. An unrealized loss only becomes realized when you sell.
Stocks that enter bear territory based on price are likely worth keeping if the fundamentals of the underlying company haven’t changed and remain strong.
During a bear market, some investors may be enticed to sell, thinking they’ll buy the shares back at an even lower price. This requires timing the market, which is difficult at best for even the most experienced traders.
In fact, investors who abandon their stocks during a bear market often miss out on the recovery. Data from investment management firm Putnam Investments shows exactly how large the missed opportunity can be for investors who try to get in and out at just the right moment.
According to Putnam, $10,000 invested in the S&P 500 from December 31, 2006, to December 31, 2021, would have returned $45,682, a 10.66% annualized return. If, on the other hand, the investor missed just the 10 best days in the market — the days with the highest percentage gains — over the past 15 years, the annualized return would have been just 5.05%. Investors who missed these days would have made just $20,929, less than half what they could have made by staying fully invested.
There’s no telling when the market will turn, so consider holding onto those stocks, and even look for opportunities to buy more.
3. Identify mispriced stocks
Warren Buffet once said investors should “be fearful when others are greedy, and be greedy when others are fearful.”
Because irrationality abounds, bear markets can represent an opportunity to buy solid stocks at a discount.
Look for stocks that are getting slammed because the broader market is pulling them down. Stocks that you’re holding onto through the downturn may now be at much more attractive prices, giving you an opportunity to add more to your portfolio for less.
“When investing, it’s best to focus on the long term and use dollar-cost averaging to smooth out the stock’s purchase price over time while still taking advantage of the dips in the market,” says Colvert. “The key is to keep investing consistently.”
The challenges of timing the market comes into play here too. When you buy in a bear market, you may not be buying at the bottom. Stocks could drop even further. Because of this, consider buying gradually on the way down and not trying to call the bottom.
4 sectors that tend to perform well during a bear market
Even in a bear market, there are opportunities to put your money to work.
“Investing in stocks and funds that perform better during recessions is another smart thing to do during a bear market,” says Colvert. “Think food, household staples, healthcare and utilities.”
With that in mind, here are four sectors that could offer opportunities during a bear market.
1. Consumer staples
According to data from Capital Group, the consumer staples sector finished above the S&P 500 each time during the last seven market downturns.
This sector includes food and staples retailers, food, beverage and tobacco companies and companies that produce household and personal products. In other words, these stocks are from companies that produce goods most people need to live, regardless of the state of the market.
Look for opportunities in higher-quality stocks that pay dividends, and have consistently grown their dividends, as they may potentially help to boost your total return when stock prices may be falling.
Learn more in our guide to consumer staples stocks.
2. Utilities
Like the consumer staples sector, utilities have real-world advantages during a bear market. Stocks in this sector are from companies that provide basic services including electricity, natural gas, and water. These are things people need regardless of what’s happening in the market.
Stocks in this sector usually have reliable revenue streams and many can afford to pay consistent and competitive dividends to their shareholders, which, again, can help lift your total return when stock prices decline.
According to Capital Group, the utilities sector also finished above the S&P 500 each time during the last seven market downturns.
Read more in our guide to investing in utilities stocks.
3. Health care
Healthcare stocks may not be known for their dividend-earning potential, but, over the long term, this sector has delivered strong returns and tends to do well in both bull and bear markets.
Stocks in this sector include healthcare equipment and services, pharmaceuticals, biotechnology and life sciences tools and services.
Like consumer staples and utilities, health care is a defensive sector, meaning sales are usually unaffected by changes in economic demand or market conditions.
During the last seven market downturns, the healthcare sector finished above the S&P 500 six times.
Learn more in our guide to healthcare stocks.
4. Telecommunication services
The telecom sector is made up of companies that provide telecommunication and Internet services, such as cable companies, Internet service providers, satellite companies and telephone companies.
Many telecom stocks pay dividends and the sector as a whole has lower volatility relative to the market, making it a valuable defensive sector during a bear market.
According to Capital Group, this sector has finished above the S&P 500 six of the last seven bear markets.
Start researching with our guide to telecommunication services stocks.
Final thoughts
While these sectors might fall with the broader market during a downturn, they’ve shown to offer opportunities during a bear market.
That being said, past performance doesn’t guarantee that they’ll operate the same way in the next bear market.
Importantly, don’t make any rash decisions and know what you own. If you have a long time horizon, you’re best off holding onto stocks of solid companies to ensure you don’t miss out on the eventual recovery.
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