When listening to financial talking heads, it’s common to hear talk of bull markets and bear markets. The US began one of the longest bull markets in history coming out of the Great Recession. This means that a bear market is closer than it’s been at any time in the last decade.
What Is A Bear Market?
Simply stated, a bear market occurs when a major stock index experiences a drop of 20% from a recent high point. The high point of the market does not really matter. For example, back when the Dow Jones Industrial Index was at 2,500, a drop of 500 points would have qualified. As of 2019, a drop of more than 5,000 would be necessary to hit bear market territory.
The most recent bear market occurred in late 2018, when a late-year selloff contributed to a drop of more than 20% on the major stock indices. As this most recent bear market shows, bear markets do not have to last for long. A sector of the economy or a single company can also experience a bear market. Again, a 20% drop would indicate a bear market in a sector or for an individual corporation.
Types of Bear Markets
Most financial commentators will argue that there are two different types of bear markets. The first is a secular bear market. When the economy goes into a secular bear market, the lower returns will last for 10 or 20 years. There might be some periods of higher returns, but generally, returns will be depressed for years during a secular bear market.
A cyclical bear market does not last as long. These results from the regular economic cycle. The bear market that hit at the end of 2018 appears to be a cyclical bear market because it did not last long and the market hit new highs throughout 2019. However, it can be difficult to know whether a bear market is cyclical or secular without the benefit of hindsight.
What Causes Bear Markets?
There are many reasons bear markets can begin. Many times, lower productivity and lower employment levels will lead to a bear market. Other times, a credit crunch that limits the free flow of money or increased taxes can contribute. Regardless of the reason a bear market begins, many investors will feel the pain and hope it ends quickly.