The S&P500 officially entered a bear market on June 13. Although the average bear market lasts just over nine months, many analysts are predicting a prolonged decline in equities as the Federal Reserve continues to aggressively raise interest rates. This leads some investors to wonder how they can get rich in a bear market.
Earlier this year, Jeff Sommer of The New York Times wrote a column on how new investors can navigate market downturns. If you are a subscriber, I advise you to read it. For those who can’t see behind the paywall, Sommer explains why now is the time for those with long-term horizons to buy stocks:
Prices are much better for buyers than they were at the start of the year because we’re in a bear market, which just means the stock market as a whole is down at least 20% from relative to its peak. While the past does not guarantee anything for the future, the fact is that the US stock market has always recovered from declines over periods of at least 20 years. If you can plan to buy and hold stocks for 20 years or more, buy now.
Below, I focus on practical steps investors can take to get rich in a bear market. It’s important to note that neither Sommer nor I are talking about get-rich-quick. Rather, it’s about developing sound strategies that will help you grow your wealth over the long term.
Before you start thinking about how to get rich in a bear market, you need to know the rules of the game. Over the past few decades, the Federal Reserve has generally adopted accommodative monetary policies. When economic shocks occurred, the Fed effectively reduced the cost of borrowing, spurring risky companies.
The accommodative character leads to an erosion of the purchasing power of the US dollar. Since the greenback will be worth less tomorrow, it is better to spend the money today. Moreover, since the dollar carries a guarantee that it will lose money, investors have an incentive to do something – anything – with their funds.
However, to combat rising inflation, the Fed has turned to hawkish policy, which implies a deflationary profile. Here, the dollar will increase in value tomorrow so it is better to save money. Moreover, the greenback offers the guarantee that it will indeed return value to the holder of the cash. Thus, investors are encouraged not to invest, unless the opportunity is so attractive that it is worth setting aside a guaranteed profit.
You need to understand this basic framework before attempting to get rich in a bear market.
This may seem like an obvious step, but I’m talking about real research, not just browsing the internet to find material that already matches your view. You might be surprised how little research people do these days.
Human behavior towards the equity sector has been consistent over time. Even with the advent of the internet, people still fall into the same traps like chasing meme stocks or higher cryptocurrencies.
You do not believe me ? Yale professor Robert J. Shiller noted that as the stock market crash of 1929 approached, people turned to the latest mass communication platform: radio. On it, hits like “I Faw Down an’ Go Boom!” pokes fun at the excesses of the activities of small investors: “I got a tip to buy stocks, I lost my shirt, I lost my socks.
The minute I buy stocks, they go down and explode. The lyrics demonstrate that no matter the time period, people tend to act predictably when it comes to money. If you want to get rich in a bear market, you need to do your research rather than just jumping on the latest fad.
Contrarianism can be a profitable ally if you’re looking to get rich in a bear market. Because human psychology tends to create similar dynamics on a large scale, recognizing a development and betting against it could reap significant rewards in the market.
In a 1997 article, Shiller notes that people “often tend to show, in experimental settings, excessive confidence in their own judgments”. Therefore, if you scour social media platforms and identify a fundamentally ridiculous trade that is nonetheless attracting the bullish attention of the masses, you might have a contrarian opportunity on your hands.
Jim Taylor, Ph.D, mentioned a series of psychological influences on the stock market. For example, Taylor discusses confirmation bias or the “propensity to seek out or interpret information that will validate our beliefs. For example, if a trader really likes tech stocks, they are more likely to seek market information that will justify buying or holding them and reject conflicting information.
Although that sounds cynical, you can bet against the empty hopes and wishes of the masses.
In an investment framework, leverage refers to the use of borrowed money to increase the potential return of a particular transaction. When I talk about using leverage in the context of how to get rich in a bear market, I am referring to the forward discount inherent in acquiring deflated stocks of fundamentally sound companies.
Let’s say a sharp downturn materialized before you had a chance to buy put options or employ a similar strategy to make money from falling asset prices. You can still make money through the traditional buy-and-hold mechanism. To do this, you’ll want to identify the most resilient companies and load them up.
Several years ago, McKinsey & Company published an article on the role of emotions in market behavior. In their analysis, the authors acknowledged that human emotions can influence the equity sector “in a few short-lived situations.” However, they ultimately concluded that the fundamentals still ruled.
Bear markets offer investors a chance to buy big stocks on the cheap.
The surest way to get rich in a bear market is to buy good stocks at a low price, not cheap stocks at an even lower price. In a game of odds, you want to give yourself the best chance of success. That said, when your bases are covered, it may not hurt to consider small cap opportunities for your more speculative capital.
The attraction here comes down to math. Generally, a market downturn will affect less capitalized companies first and to the greatest extent. Therefore, you may be able to acquire a larger stake than would have been possible in a bull market.
Note that this strategy presents high risks. Small businesses sell first for a reason. They may not have the capital to weather an economic downturn like their larger counterparts. So when considering more speculative stocks, focus on those with relatively strong financial metrics, such as a strong balance sheet or a positive retained earnings trend.
It goes without saying, but I’ll say it anyway: if you want to get rich in a bear market, you’re going to need patience. And I’m not talking about a few months here. Investors may face years of deflationary cycles.
Japan has fought deflation for decades, trying every trick in the book to raise prices. Finally, there has been some inflation, but it’s not the right kind. I don’t foresee a similar situation in the US, but neither would I be quick to assume that we will go from a bear market to a bull market in the near future.
Looking at historical data, between August 1929 and March 1933, the purchasing power of the US dollar increased by 38%. When it hits, deflation can be an unpleasant and frustrating ride. No one expects this scenario to play out. However, it is better to prepare for it.
Although not a market-related idea, the concept of effort can be one of the most effective if you are looking to get rich in a bear market. Many people resort to mediocrity as a starting point, doing just enough to get by. While this attitude may have reduced it during a bull market cycle, in a deflationary cycle it could derail careers.
As myriad sources have pointed out, it is better to go further. Those who have a better chance of keeping their jobs during a recession. Moreover, it is quite easy in this age of resistance to return to the office to demonstrate one’s worth simply by returning to the office.
As real estate billionaire Stephen Ross recently pointed out, in a recession employers were less likely to lay down the law due to the tight labor market. “But I think when you go into a recession and people are worried about not having a job, it will bring people back to the office,” Ross said. “You have to do what it takes to keep your job and make a living.”
Get a head start by showing your worth now. After all, you will need to make money to get rich in a bear market.
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