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Bear Market: Pessimism & Price Declines

bear market The Bull & Bear Statues at the Frankfurt Stock Exchange in Frankfurt, Germany. The Frankfurt Exchange is the 12th largest exchange by market capitalization. / Credit: Rob Wilson / Shutterstock.com

A bear market is a prolonged period of time in which the stock market declines and is accompanied by widespread pessimism about the market conditions.

Bear markets are generally caused by economic recessions, high unemployment rates, and rising inflation. They can also be caused by too-rapid growth and over valuation. Low levels of product development or manufacturing can also contribute to a bear market.

A bear market is rife with various psychological influences. When the stock market declines, investors and the general public lose their faith in the market. Investors are left emotionally drained and are skeptical of any new bull markets, which are periods of investor confidence and rising stock prices.

The negative emotions associated with bear market investment can cause bad decisions, which can result in even more loss and create more doubt about market stability. As the value of stocks, securities, and currencies decline, bearish investors will often diversify their portfolios. To save their portfolios, many will move higher risk investments into lower return, stable options, or even outright sell their options, causing more damage to the market.

In terms of numbers, the definition of a bear market has been generally accepted as a decline in a major stock index of 20 percent or more. Bear markets have lasted from less than two months to more than 17 months, have occurred from 18 to 77 months apart, and have caused market declines of anywhere from 20 percent to 40 percent. If the stock prices decline in a short period of time immediately following a period of rising stock prices, this is considered a correction, not a bear market.

Secular markets are market trends that last anywhere from five to 25 years. Since 1900, the U.S. stock market has suffered four long-term secular bear markets. Historically, the worst bear markets accompanied the Black Tuesday collapse in 1929, the mortgage financial crisis in 2007, post-Depression unemployment in the late 1930s, and the 1973 recession and oil crisis.

Investing and profiting in a bear market is difficult, but not impossible. Here are a few tips:

  • Don't make emotionally driven investment decisions, as these can make the market – and your portfolio – even worse.
  • Wait until the market bottoms before deploying cash. This will protect your portfolio and generate better long-term investment rules.
  • Invest in different types of derivatives and options.

Origin of the term

The expression "bear market" is thought to have originated in Canada. Fur sellers would collect payment on sales before the furs were available, then order the furs later, hoping the prices would drop in the meantime. If these speculators were able to sell at a high price but acquire furs at a price lower than anticipated, they'd profit from the difference between the cost price and the selling price. With this instant profit practice, the fur middlemen were called bearskin jobbers, and the term "bear market" eventually described a downturn in the market.

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 "bear" symbolizes the way bears attack, by swiping down with their paws and claws, whereas as bulls attack by thrusting their horns out and up, resembling the upward move of the markets. While this origin may not be historically accurate, it's a good way to remember that the term "bull market" means the market is going up, or increasing, and "bear market" means the market is going down, or declining.