Understanding bull and bear markets

From wise owls to early birds, the English language often uses the characteristics of one animal to describe another. Investors are no different. You might have heard someone described as having a “bullish” or “bearish” outlook, or perhaps you’ve heard the terms “bull market” and “bear market.” So what do these animals have to do with your investments?

Defining bull and bear markets

The bull and the bear describe the general performance of the stock market. A bull market is one that’s on the rise, or appreciating in value. It’s typically marked by a sustained increase in stock prices, as well as a strong economy and high employment levels. In a bull market, investors feel confident and have a positive, or “bullish,” outlook. They believe the upward trend will continue, which helps perpetuate the bull market.

Conversely, a bear market is one that’s in decline, or depreciating in value. In a bear market, stock prices continuously drop, the economy begins to slow, and unemployment increases. Investors lack confidence and have a pessimistic, or “bearish,” outlook. They believe the downward trend will continue, which helps perpetuate the bear market.

Keep in mind that, despite the bulls and the bears, the market has posted a positive return historically.

Other market characteristics

In addition to stock price, a few other characteristics may accompany bull and bear markets, including:

• Supply and demand for securities – In a bull market, there is strong demand and weak supply for securities, like stocks and bonds. In other words, many investors want to buy, but few want to sell. As a result, stock prices rise as investors compete for limited securities. In a bear market, the opposite is true: more investors want to sell, and few want to buy, resulting in lower stock prices.
• Investor psychology – When investor psychology changes, so does the market. In a bull market, rising stock prices build investor confidence, fueling continued investments, which result in additional gains. In a bear market, on the other hand, falling stock prices shake investor confidence, causing many to sell investments or stop investing altogether. In turn, these actions further advance the decline of the market.
• Changes in economic activity – The market is also closely tied to the economy. Consumers generally have (and spend) more money during bull markets, which increases business profits, raises stock prices, and boosts the economy. During a bear market, consumers tend to tighten their wallets. As spending slows, business profits decline, affecting the way the market values stocks and weakening the economy.

How to read market changes

Let’s say the last four weeks have been bullish, and the past four years could have been bearish. How can you tell whether you’re in a bull or bear market? Two factors can help: the period of time and degree of change. Many agree that a sustained change of 15% to 20% in multiple indices over a period of two months or longer indicates a move into a bull or bear market.

But, the market may not always be bullish or bearish. Sometimes the market moves up and down for a period of time, thereby canceling out gains and losses. The result is an overall flat trend.

What you can do

Ideally, investors take advantage of these market trends by buying stocks at their lowest price (the bottom of a bear market) and selling them at their highest (the top of a bull market). Because it’s impossible to predict market changes, though, it’s wise to develop and stick to a financial plan that reflects your risk tolerance and time horizon. Keep your eyes on your long-term goals and remember that the market has posted a positive return historically, despite the ups and downs of bull and bear markets.

Fun fact

The bull and the bear became metaphors for the market movement because of the way they attack their opponents. Bulls thrust their horns upward, and bears swipe their paws down. Therefore, if the market trend is up, it’s a bull market. If the market trend is down, it’s a bear market.

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