Bull markets or bear markets? We don’t care markets
Right now there’s a debate going on amongst market experts—whether we are in a bull market or in a bear market. And it extends to encompass topics such as, will the Nifty 50 form a bottom at 14,500 or will it go down further? Another such noteworthy subject is whether tech companies are going to make a comeback or have they already witnessed the best of times over the past two years’ earnings upgrade cycle.
Well, don’t get confused, overwhelmed or intimidated by various experts participating in such conversations and sharing their viewpoints.
In the stock market parlance, a bear market begins with a price decline of 20% from the recent highs.
The world’s most widely tracked equity index, S&P 500, has come off 15% over the last 6 months. The broader Indian equity indices have fallen around 8% over the same timeframe. Therefore, going by the classical definition, we are still not in a bear market—neither globally nor in India.
But instead of restricting ourselves to the academic definition of a bear market, let’s look at the general market trend. And for that, market breadth is one of the best indicators.
The breadth of Indian markets, measured by the advance-decline ratio (i.e. the ratio of stocks advancing to stocks declining) touched a 26-month low this month, i.e. in May 2022. It means, the general market trend is down and people are less optimistic about future stock prices.
To the moon and back with market cycles…
Like the moon goes through cycles of waxing and waning, markets go through bull and bear cycles. Between the eighth day of the waxing cycle and the eight day of the waning cycle, the moon looks radiant. The only difference is in the waxing phase, it gets more effulgent with every passing day and in the waning phase moonlight defuses every day.
Likewise, in bullish phases investors capitalize on momentum and buy more. While in bearish phases investors search for opportunities to exit—as optimism defuses. But unlike waxing and waning moon phases, which are naturally occurring and predictable phenomena, bull and bear markets are unpredictable.
On this backdrop, it’s crucial to discuss the importance of risk management, irrespective of which phase of the market cycle we are into at present.
I want to generate higher returns and for that I am ready to take higher risks—you may hear this a lot from experienced investors. But what makes any investment risky or less risky? Warren Buffet has already given us a hint—risk comes from not knowing what you’re doing!
Our interpretation of this is: risk comes from uncertainty about the future and a lack of awareness about this uncertainty. In other words, risk stems from extremes and overwhelming consensus about future outcomes.
And if history has any clue for the future, all bear markets begin with sky high asset prices, undeterred optimism and a massive flow of liquidity.
Factors that get bears out of their dens are:
- Runaway inflation (not just high inflation)
- Massive rise in interest rates
- Overheated real estate market
- Overheated alternate investment markets
- Intensified private equity and venture capital deals that completely disregard valuations
- Unexpected and negative geopolitical/macroeconomic developments
- Currency crisis
- Sky-high commodity prices
- Credit excesses
Considering everything said until now in this piece, it appears that many themes have been showing signs of fatigue and are already in a corrective mode.
For how long can we avert a classic bear market? We don’t know. Therefore, any discussion about predicting index levels is utterly futile. In January 2008, nobody publically predicted a level of 2,700 for Nifty50 by March 2009. In March 2020, nobody had the gumption to predict an index level of 18,000 by the end of December 2021.
Waxing moon or waning moon? We don’t know but markets are certainly not on a honeymoon.
Should you bother about whether it’s a bull market or a bear market, if you are in for the long haul?
Frankly no, provided you know how you should ideally construct an equity portfolio for long term. In the past, we have shared 6 essentials of a long term equity portfolio. And we have been saying it for a while now: the market may belong to all but good returns still and will always belong to smart investors.
Pro tip: If you want to protect your portfolio from the pitfalls of cycles, try to dissociate your portfolio decisions from optimism or pessimism of the immediate past. Don’t forget, the full moon calls for the end of a waxing cycle and it’s the darkest night before the new moon shows up! As far as stock markets are concerned, big money is made or lost at these transit points.
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