The S&P 500 officially enters a bear market

The S&P 500 slumped 3.9% on Monday 13 June, 2022 and the broader benchmark dropped more than 21% from its most recent high – officially entering bear territory.

Having flirted with a bear market for months, the S&P 500 finally succumbed as fears that the US Federal Reserve may have to be more aggressive to cool inflation took hold.

A bear market is declared when the index experiences a 20% decline on a closing basis from its previous peak. While the S&P 500 had dropped below this level on an intraday basis in the past few months, it wasn’t until this week that it closed lower than 3,837. This meant it had dropped more than 21% below its all-time record close achieved on 3 January, 2022.

Now that it’s official, investors will be wondering how long it will last and what to do with their portfolios.

What caused the slump?

The causes of every bear market are different. In this case, reports that inflation reached a 40-year high in the US led to fears that the Federal Reserve will need to tighten interest rates in order to respond.

When the COVID pandemic hit, central banks and governments responded by implementing rate cuts and printing money. Now, 2 years on, inflation is increasing at a higher rate than expected. This is further exasperated by the war in Ukraine and supply issues caused by the pandemic.

All of this has led to investors feeling very nervous. Expectations are that the Federal Reserve will need to raise interest rates, further increasing the risk of a recession.

How long will the bear market last?

It is impossible to predict exactly how long a bear market will last. Looking back over previous bear markets, the longest was 62 months during the Great Depression, while the shortest was just 1 month in 2020. On average, a bear market translates into a 38% price decline and lasts an average of almost 19 months.

But there are some arguing that this may be a longer and more severe bear market than any other experienced since World War 2. Nobody knows what the long-term consequences are of having shut down parts of the economy for long periods of time and other actions taken during the pandemic.

In the short term, equity and credit markets have lost confidence in the Federal Reserve. They believe it has let inflation get out of control and will therefore have to take more aggressive action – potentially pushing the US economy into a recession. The likelihood is that there will be further declines before any sort of rebound.

What can investors do?

In a bear market, most investors will want to minimise their losses and improve their long-term investing returns. However, it is hard to predict how long the bear market will last or estimate the depth of the decline.

As this is the beginning of the bear market, history indicates that stocks have further to fall before making a comeback. The silver lining is that the market has recovered from every single bear market.

Investors who are older and have a higher balance are likely to be more exposed as they have less time to ride out the decline. Younger investors are in a position where they may be able to take advantage of bear markets to increase their long-term balance.

While each investment decision is personal – and previous performance is not a guarantee of future performance – investors could use this opportunity to diversify into less risky stocks. Bear markets tend to impact growth stocks more than value ones, so diversifying into value stocks could minimise losses and offer long-term benefits.

For UK investors, this could be an opportunity to check their exposure to companies that make up the S&P 500.

Overall, experts suggest that investors shouldn’t panic but, instead, continue to grow their savings and use a bear market as an opportunity to ensure their portfolios are properly diversified and de-risked.