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September 28, 2018

You Won't Outsmart the Next Bear Market


With the bull market turning 10 years old on March 9th, 2019, there's a lot of talk about an impending bear market (when the stock market declines by 20% or more).

Prognostications for the start of the next bear market vary anywhere from 12-24 months. Really though, these are just guesses. Nobody knows when a bear market will occur, but everyone knows one will occur at some time. And the longer this bull market goes, the closer we get to the next bear market.

People are preparing.

There are numerous articles, discussions, etc. about positioning and profiting from the bear market everyone knows is coming. Many people are convinced they will be able to remain a step ahead of the bear market and invest at fire-sale prices.

Stop right there!

People have forgotten the psychological toll taken by bear markets. Rationality goes out the window when every single headline - for months on end - reads like the world is falling apart.

During a bear market, companies ruthlessly slash spending and millions of people are fired. Bankruptcies rise, people lose their homes and animal spirits vanish. The environment becomes saturated with fear and individuals suddenly worry they might be next.

Would you buy a car if you thought you might lose your job next week? Well, the same logic applies to investing - particularly into a market that is falling every day, week and month.

Even those with the balls to dollar cost average their life savings into a falling market will second guess their decisions. Bear markets are relentless and go on for months - even years. Investing in a bear market is fraught with emotion. Either you're early and watch your life savings erode or you miss the bottom and sit on the sidelines waiting for the other shoe to drop.

Like a roller coaster, precipitous falls are followed by violent relief rallies on a daily, weekly and monthly basis. And just when you think it's over, the bottom falls out of the market again.

After months of getting punched in the face by the market on a daily basis, many people cut their losses and move to cash. They become ultra-skeptical of any rallies, regardless of how sustained. Green shoots of good news are considered fake, and eventually those who capitulated near the bottom miss out on the early stages of the recovery.

After the crash in 2008/2009, many investors remained on the sidelines for years as the market climbed a wall of worry.

Whether or not you've already been through a bear market or two, you will still find it tortuous - perhaps even more so. The time that has passed since the last bear market only equates to a larger life savings at risk and bigger dollar losses. Moreover, a shortened time horizon to retirement, greater family responsibilities and a dependence on a larger salary only compounds the fear and irrationality. So don't think that experience will make you any wiser.

Of course, nowadays everyone is bullish, making money and feeling pretty smart - typical peak market cycle psychology. But when it finally emerges, these same people will quickly learn how difficult it actually is to outsmart a bear.

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