Trading A Bear Market

For those actively invested, this week has been a roller-coaster ride for your portfolio, for the worse. After a historic 11-year bull market, we now find ourselves in a bear market. A bear market is a 20% decline from a market peak. 

Black Swan Events:
What got us here? We’re in the midst of a coronavirus outbreak, a catastrophic black swan event – a scenario that is by definition, a “one-off” or any random occurrence that is unpredictable. These events have the tendency to cause panic & mass hysteria. In this case, it is a major public health issue that has rattled stock markets around the world, driven by a sense of fear & uncertainty of the economic impact of closing businesses & lack of access to credit. We’ve been here before – some examples of black swan events include dot-com crash, Ebola, Swine flu, 9/11 attacks, 2008 housing crash, to name a few. The below chart shows a history of bull and bear markets.

Source: CNBC

A silver lining to this week’s destruction on Wall Street is that – what has gone down must come back up. Consistent & panic declines (i.e. when the DJIA dropped nearly 2,400 points this past Thursday) can pave the way for a faster recovery – whenever that does happen. Ripping a band-aid off as fast & quickly as possible is much better than peeling it off slowly & steadily. In a historic week, US markets fell into bear territory in just one month – the fastest ever decline on record.

My Personal Take & Tips For You:
My strategy is not changing. My inner optimist finds value in investment opportunities right now because like every other black swan event, this too shall pass. My optimism for long term value & growth stems from very basic fundamentals I firmly believe in: 

  1. The economy was strong pre-coronavirus outbreak. In the past, the market has and always will rebound. 
  2. Well-positioned companies with strong balance sheets (with a focus on Cash) and consistent profitability are not going anywhere. Strong cash reserves/liquidity allow companies to weather the darkest of storms.
  3. American strength & resiliency – Warren Buffet said it best, “believe in American ingenuity and invest accordingly”. If history is any indication, American business will continue to grow and prosper over the long term, despite any turmoil that comes its way.

I know what you’re thinking. I sound too positive and this is all hard to stomach when you’ve lost thousands of dollars in a single week. If you’ve put your entire life savings into the market, there’s your first problem and you’re likely to panic sell and take steep losses. The only losses you should take right now are for the following reasons:

  1. Tax advantages – up to $3,000 of capital losses can be deducted to reduce your taxable income for your FY 2020 return.
  2. You’re not liquid. Meaning, you do not have emergency savings set aside for a rainy day or quite simply, you just don’t have enough money outside the market to pay off your existing credit card bills or other debts.
  3. If there are investments you just don’t believe in anymore and wish to take the loss and instead, invest that money into what you believe is a growing & profitable business, then do it. 

Strategies In A Bear Market:

  1. Liquidity. Cash is everything in a market downturn and you want to make sure you have enough on the sidelines to be ready to put to work in the markets. A famous saying on Wall Street is “don’t try to catch a falling knife” – meaning, do not buy into companies haphazardly that are in free fall as the news may likely to get worse. Instead, if you choose not to go for an index fund or mutual fund, you’re going to need to do some research for a stock you’re interested in buying for the long term. 

2.  Practical thinking. Ask yourself these questions:

  1. Did people stop eating Chipotle after mass E. coli cases?
  2. Did people stop flying on planes after 9/11? 
  3. Will people stop going on cruises?

Answers to all of these are an obvious no. If you let practical thinking guide investment decisions during a time of fear and hysteria, you’ll come out on top over the long run. I do not recommend specific companies to invest in on my blog, however, you can be certain that travel & entertainment companies are on top of my list to invest in as they continue to get hammered to unrealistic levels. Generally speaking, the top airline & cruise operators are highly liquid and can afford the short term decline that is continuing. The question you’re probably asking is – what if these companies go bankrupt as demand continues to plummet across the travel & leisure business? One interesting thing to note is that – NOBODY benefits from a bankruptcy. The reason is this – most of airlines’ and cruises’ liabilities are held by the big banks.

Big banks profit big-time from the interest on long term debt they charge these companies for running day to day business operations. Cruises and airlines are consistently profitable and well-run companies in the United States, and most of these, are highly leveraged businesses (businesses that hold a large amount of debt). If a big bank were to stop lending money to them, they’re depriving themselves from millions of dollars of potential interest income from these businesses. Since cruises and airlines are used for leisure & business travel, respectively, they are solid cash cows & trusted companies to repay their debts. These businesses may significantly slow down for the next six months-year or longer, however, they are certain to be profitable and running smoothly soon afterwards.

Any ETF or index fund that has exposure to financials is on top of my list. Companies like Bank of America, JPMorgan, and Goldman Sachs are well capitalized and are not in a financial crisis scenario.

3) Rethinking your asset allocation:
Market downturns present both learning and investing opportunities. If you feel you are too overweight in one sector of the economy, well-positioned and profitable companies in free fall provide ample opportunities to grow your portfolio and increase exposure to another sector of the economy.

The near-retirement investor:
For those of you closing in on retirement (<5 years away), bear markets are the last thing you want on your mind. However, if you hold a comfortable cash position, you’re going to be fine. Now may also be a good time to revisit your big winners over the years and consider cashing out to have more liquidity, in the event the markets drop more aggressively. Alternatively, you can average down on your cost basis in your shares so you benefit if the market recovers over the next six months to a year and beyond. 

Possible recession?
This one is on everyone’s mind – because it directly impacts all of us, whether it is through unfortunate layoffs, struggling small businesses, or decimating 401Ks. One thing is certain – it is simply too early to make any drastic calls on just how impactful or significant this is going to be or if there will even be a recession. This is a good example of the risk that globalization poses and how a fallout in just one major economy (in this case, China) can have a devastating ripple effect across the world. Here are a couple of takeaways:

  1. China will have to make swift changes to attract global investment once again
  2. Major economies around the world will re-think certain globalization strategies and may shift supply chains to other countries.
  3. US economy will bounce back faster than others around the world. If you look at the fundamentals of the US economy pre-coronavirus, it was firing on all cylinders (although our monetary policy remains questionable). With consistently high consumer and investor confidence pre-virus, we were ready to handle a major downturn and I believe that a fiscal stimulus is certainly on the way to assist small businesses. You cannot prevent recessions, however, smart fiscal policy here, has the capability to save a lot of depressed small businesses coming out of this virus-induced slowdown. 

That brings me to my last point, this bear market is unlike what we experienced in 2008. The US will inevitably face a slowdown in the coming quarters and only time will tell just how badly the US and other global economies suffered from this virus-induced slowdown. In my opinion, since this was NOT caused by a credit crisis or some other factor or event related the economy, once we have reached a PEAK in the number of coronavirus cases and have found a way to contain this spread in the US, we’ll be on the road to recovery. 

Till then – be prepared for a downturn by staying liquid. Cash is king. 

This blog and the information contained herein is not a platform for guaranteed success on investments. The views expressed are my own and I strongly suggest to do your own research prior to making any decisions. Because the information on this blog is based on my personal opinion, research, and experience, it should not be considered professional financial advice. The blog is a discussion forum and not a website for access to financial data. I have no access to material non-public information nor any discrete information on publicly traded companies.


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