27 May 2020
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What is a bear market? A bear market is defined as a sustained period of downward trending stock prices, often triggered by a 20% decline from near-term highs. Bear markets come in all shapes and sizes. The biggest bear markets of the past century happened during the Great Depression (1929 to 1933) and the Great Recession (2007 to 2009). Bear markets present a buying opportunity due to depressed pricing, but they are often accompanied by economic recession and high unemployment.
In March of this year, a bear market began; mainly due to shrinking corporate profits but also perhaps because of the sheer length of the 11-year bull market that preceded it. The immediate cause of the bear market was a combination of the effects of the Covid-19 pandemic on the world economy and the collapse in the price of oil due to a fall-off in demand and a price war between Saudi Arabia and Russia. On the 11th March 2020, the Dow Jones Industrial Average fell from all-time highs approaching 30,000 to under 19,000 in just a few short weeks.
The falls in this bear market have not only been rapid but also relatively savage and deep. In an attempt to understand what could be in store for the future, we can turn to past bear markets to predict the potential repercussions and recovery from this bear market. Goldman Sachs have gone as far back as 1835 in their study and split the bear markets up by cause. These can be in the form of the more normal boom and bust recession cycle, or they can be event driven or structural. Analysis of past event-driven bear markets shows that they tend to be shorter than those sparked by other causes. Evidence would also suggest that the average length of the bear market decline and the recovery time tend to be significantly shorter.
We can compare our current environment to flu-related bear markets such as the Asian flu epidemic in 1957. The decline caused by the coronavirus is severe but shallower than the downturn triggered by the Asian flu. Why is this? The effects of Asian flu were worse in that young people were more severely affected and the fatality rate was higher. And in contrast to the decisions made by policy makers in recent months, governments in 1957 did not respond with a high level of fiscal stimulus. The interest rates in 1957 were raised and then cut later in the recession, but in the early part of this year, they were cut close to zero straight away. The government reacted quickly and has since injected substantial stimulus into the economy. The packages provided by global governments are worth around 5 trillion dollars. Due to the speed and depth of the global response, it’s predicted that the damage from the coronavirus pandemic won’t be as profound as that caused by Asian flu and that the recovery will be faster.
What can we learn from past bear markets when it comes to the performance of investment factors? The behaviour of low volatility, momentum, quality and value stocks during the Great Recession can be analysed. Value stocks performed poorly but recovered relatively quickly. The recovery though was short-lived and value stocks continued to underperform for some time. Quality stocks and larger companies performed better. We’ve seen that people flock to companies that are self-funding and have a resilient business model during turbulent times and in 2020 this behaviour has been replicated.
Past markets are a useful tool in the prediction of how the current bear market will play out and the good news is that in terms of recovery and duration, it’s likely that this bear market will be less profound, and shorter than some of those that have come previously.
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This information is for UK Professional Advisers only and should not be given to retail clients.The value of investments and the income from them may go down as well as up and investors may not get back the amounts originally invested.
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