Bulls, bears and what it all means

We recently produced the following for our clients as part of an 'Investor Insight' series and thought it quite topical and worth sharing with you.

There is a lot of tension in the markets at the moment with how long the bull run might extend, when and where to allocate cash or how to reposition one’s portfolio. Whilst we provide a review with each quarterly valuation we have been receiving an increasing number of emails asking us to explain what exactly a ‘bull market’ or ‘bear market’ is and how it may impact their savings. We put together the following overview to hopefully help you understand what everything means, where we believe the markets are, an opinion on the markets and what we believe are safe positions to take with a few ideas for investing. We hope you find it of use and we are here, as always, to answer any questions or concerns that you may have. We proactively contact clients in any instance that we believe any changes should be made and if you haven’t heard from us outside of your quarterly reviews then it means we are happy with the current structure within your portfolio.

What are Bull and Bear Markets?

The markets move in trends; there are ‘bull markets’ and ‘bear markets’. A bull market refers to a market that's prices are rising in value whilst a bear market refers to a market that sees prices falling which encourages selling. A bull market can’t last forever and there are a number of factors that shape the trend over the long term that include:

The Government; trough both fiscal and monetary policies such as the increasing or decreasing of interest rates or increase in spending.

International; the strength of a country’s currency and economy.

Speculation; the mindset of consumers, investors and institutions.

Supply and Demand; what people are prepared to pay for a product versus it’s available supply.

A recession, over valuations or a sudden event usually trigger the bear run however other signs of one approaching or that we have started one also include a spike in commodity prices, changes in interest rates, increase in inflation, investors being over confident or stocks being overvalued. A bear market typically occurs (at an average) of three to four years and usually only last about a year with a drop of about 30%.

An Example of a Market Cycle

If we take, as an example, Apple. The price to purchase Apple stock may seem reasonably priced with long term potential growth. Institutions will typically be the first to invest into the stock making the price rise and increase demand. Once retail investors see the price rising, they invest in the product as well which is the increase of demand. As the price rises, people holding the stock don’t want to sell it as they are receiving a good return which decreases the supply and increases the price even more. When the number of investors decreases and the stock has produced enough profit, institutional investors will typically start to sell their stock to obtain their profits however they can’t sell it all at once or it would decrease the level of demand and they won’t be able to sell it at the high price so they gradually sell their holdings over a period of time whilst the last retail investors buy it off of them (this is referred to as buying at the top). When the price is at it’s all time high and there is no longer the demand, people are not prepared to purchase it as there is no room for growth. People notice the selling and retail investors start taking their profits and with no one wanting to buy it the price starts to drop significantly. Following this, people start to panic sell which increases the velocity of decrease in it’s value until the price is back at a price where the institutional investors are ready to buy it again and the cycle repeats itself. There are other factors that might effect the levels of demand such as problems with the company or problems with one of their products or services. These are the bull and bear runs of a stock.

The Effect of a Bear Market

Imagine now that the whole market operates in the same way. In the long term the market is always bullish. The markets experience bear markets but whilst a bear market typically sees a reduction of 20% to 30% in it’s value, the market always recovers and then reaches newer highs.

From 1900 to 2014 there were 32 bear markets. The bear market from 2007 to 2009 saw a drop in the Standard and Poors Index of about 50% over a period of just 17 months. The bear market reversed course on March 9, 2009. The S&P 500 was up 30% by mid May, over 60% by the end of the year and today stands at approximately 330% up! So whilst a bear market might be portrayed as doom and gloom, for a long-term investor it is just a part of the investment process and rather than trying to time one’s investments at the risk of buying at the high and selling at the low, investing over time statistically brings the best returns in the long run.

The Current Market

The current bull market has been identified as the longest in history. Many on Wall Street seem to think that it could extend by another year. Any investor that is looking to enter the market now may not want to buy in at such a high price. Even if the bull run extends by another year, the room for growth is not worth the potential losses that one might face. There are many signs visible that we are starting a bear run however this could also just be a short term correction with people taking profits before the markets aim for new highs again.

When we are at the end of a bull run and institutional investors take their profits and sell the stocks they were holding they need to do something with their cash. Some will short the market (this is where you sell the stock to buy it at a lower price later and profit from the drop in value) and others will look at other asset classes like commodities or other ‘safe havens’. Gold and precious metals (which is a popular commodity and safe haven during a bear market) hasn’t really started to increase in value yet. It appears to have reached a point of reversal so it does look like some money is definitely flowing in there but not the amount that one would expect to see in a bear market. The volatility index (or VIX) is increasing which is usually a sign that people are starting to get nervous and there is more selling and buying taking place and JPMorgan Asset Management released a statement yesterday recommending a shift to bonds saying that with increased nervousness together with the increase of interest rates offered on bonds at the moment it is an attractive consideration to make right now. Whether we are at the end of the bull run or not remains to be seen.

Market Opinion

If you are in cash then we would not recommend chasing the rising prices of any of the technology stocks at the moment. They are starting to decrease in value and waiting to see if this is a pull-back or the start of a bear runs is the best move rather than risking investing at the start of a decline. If you want exposure to equities then dividend paying stocks are a safer bet and General Electric is always seen as a safer investment during a bear run. Riskier stocks you could consider are cannabis stocks, which have been seeing some great gains since the legalization of the product in a number of states however with the large number of entrants into the market make sure you do your own research first and are aware of the high risks involved.

Looking at other asset classes; gold and precious metals is in a long term descent however the current price is looking good for a 12 to 18 month term investment and might be a good short term holding or diversification within your portfolio. Bear in mind you may not be buying at the bottom yet but for the investment period it is at a reasonable price. Bonds are increasing but be wary of which ones you invest in and seek advice first as some corporate bonds may suffer in a recession. Some structured products that offer protection and an income are also great to consider if they are with a large and reputable institution that holds a good credit rating; if we are at the start of a bear run, their value on a secondary market should be greater again after a three to five year term.

In terms of currency; the USD has been very strong recently and is finally showing signs of weakening. The GBP has strengthened against the USD by about 4% already since the middle of August. We do project it to continue to weaken in general against most currencies including the GBP however with the Brexit worries ahead we would want to see some stability in the UK before we start changing currencies within any portfolios.

UK Pensions

We have a number of clients that hold pensions in the UK or offshore. If you hold a pension it is most likely to already be quite diversified in line with your retirement date. If you established your pension over five years ago and do not receive regular reviews or analysis from your pension provider then we do recommend you contact them and ask to see what you are invested it and realign the strategy with your retirement plans.

Funds are a balanced way to be in the market as they each have a fund manager that should anticipate these market changes and change his allocation within his strategy. Fund Managers all have rules and strategies for their fund as to what and how they can invest the money they manage. Some are only able to invest in equities and only in a long position (buy and hold). If you intend to retire within the next three to five years then ensure you are not holding any long only equity funds. We recommend keeping your pension in GBP if it already is for the time being. If your pension is not being managed by Loadstone Group then it is very important to touch base with whoever your personal private wealth manager is to better understand what you are invested in. If you are already a client of Loadstone Group then you will be able to see your current portfolio online or in any of the quarterly valuations that we send out.