A bull market is a prolonged period in the stock market when investment prices are rising faster than average. In a bull market, investor confidence and investment increases. Bull markets generally coincide with periods of robust economic growth when people are more attracted to the stock market due to higher earnings. However, bull markets can create "bubbles" where prices rise much higher than the value of the underlying asset.
What is a bull market?
A bull market can apply to any financial market. The term is most commonly used with the stock market, but bonds, real estate, currency, and anything else that is traded can be a bull market.
Most markets are in a state of continuous flux. They may go up one day and then down the next day. A bull market occurs when the prices rise consistently over a period of time, often months or years.
Often, bull markets are not identified while they are occurring, but in retrospect. From 2003 to 2007, there was a bull market. The S&P 500 was rising steadily after a previous decline. As the 2008 financial crisis hit, the bull market was over and the markets declined.
Different market sectors can experience bull markets at different times, including bonds, commodities, futures and foreign exchange markets. Bull markets occur when the demand for a security or group of securities outweighs the usual laws of supply and demand, pushing prices higher. A market is commonly considered to be bullish when at least 80% of all stock prices rise over an extended period. Another indicator is if market indexes rise at least 15%.
What is a bear market?
A bear market is the opposite of a bull market. There are a few ways a bear market can be determined. One method states that a bear market occurs when there is at least a 20% decline from the biggest high in the last year. According to the U.S. Securities and Exchange Commission, a bear market occurs when a broad market index falls 20% or more over a two month period.
A recent example is the Dow Jones Industrial Average, which entered a bear market on March 11, 2020. The highest value during the last 52 weeks was 29,551.42. When the value dropped to 23,553.22 on the 11th, it was more than a 20% drop from the most recent high.
The average length for a bear market is 367 days. From 1900 to 2008, bear markets occured every three years, for a total of 32 times.
Bear markets occur due to changes in the economic cycle. Optimism is replaced by pessimissm. As trust and optimism decrease, so does demand. This causes a tipping point, and the cycle hits its economic bottom before rising again.
The cycle begins with the expansion phase. There's excitement and economic growth. Unemployment is low, and there's likely a bull stock market. When the expansion phase is going well, it can be maintained for years.
However, eventually, there's too much excitement. The GDP increases by more than 3%, and inflation goes up over 2%. This is the time when bubbles, like the housing bubble of 2005.
The peak phase is when the expansion phase has reached its peak, and the economy is about to take a downturn. It lasts for about a month.
In the contraction phase, the stock market becomes a bear market. GDP falls below 2% or even drops into the negative. Unemployment goes up. Severe contraction phases can lead to a recession.
The trough phase occurs at the end of the contraction phase. This is when the economy hits its lowest point. It's the opposite of the peak. After the trough phase comes the expansion phase, and the cycle begins anew.
Turning belief into reality
Arguably, rising investor confidence is the foremost indicator of a bull market. Investor sentiment is often shown in put/call ratios, advance/decline lines, IPO activity, and the amount of outstanding margin debt.
Bull markets occur in four distinct phases:
- The first phase starts with low prices, low investor sentiment and pessimistic views about future prices.
- In the second phase, trading activity, stock prices, and corporate earnings start to increase, bringing economic indicators above average. Investors also become more optimistic.
- In the third phase, market indexes and securities reach trading highs as trading activity continues to increase and dividend yields reach new lows.
- The final phase is marked by excessive IPO activity, trading activity and speculation. With stock price/earning ratios at historic highs, investors take profits or react to negative indicators, which in turn unravels the bull market.
The best time for investing is when the bull market is in its infancy, or the first phase. Here are a few tips on investing in a bull market:
- Bargain shop for stocks at the bottom of a bear market.
- Consider the appropriate industry; some industries are better at rebounding than others.
- Find companies with strong fundamentals, like solid sales and earnings, good products, etc.
- Diversify your portfolio with different stocks and/or mutual funds as well as investments like savings bonds and bank accounts.
Origin of term
The term "bull market" is derived from the "bear market," which stems from the bearskin trading market in the 18th century. Because bull and bear fighting was once a popular sport, bulls were considered the opposite of bears. Cartoonist Thomas Nast popularized the bull and bear as symbols of the different types of markets.
Metaphorically, the term "bull" symbolizes the way bulls attack, by thrusting their horns out and up, resembling the upward movement of the markets (whereas a bear attacks by swiping down). While this may not be historically accurate, it's a good way to remember the terms: The "bull market" means the market is going up, or increasing, and "bear market" means the market is going down, or declining.
Three of the biggest bull markets in the history of U.S. equities include the following:
- 1860-72: This period coincided with the rise of the railroad industry.
- 1920-28: This time period, known as the Roaring '20s, was marked by the end of World War I, the invention of the automobile and ratification of the 19th Amendment. However, unemployment was steadily rising, and there was rampant stock speculation, including by banks.
- 1982-99: With the advent of the internet, many internet companies were launched. Much like the Roaring '20s, the dot-com bubble, as it's also known, was preceded by stock speculation in tech companies.