Bulls, Bears and Corrections; three words we’ve seen more commonly appear in newspaper headlines during 2018, but what do they mean and how can they affect your investments?

They refer to normal seasons or episodes within financial markets, characterised by a change in investor sentiment and valuations. They can range from a few days to a period of months or years.

A bull market is loosely defined as asset values advancing over an extended period, usually by at least 20%, which follows a previous 20% decline. The phrase is commonly used when describing securities, such as stocks and bonds, but bull markets can also occur in other investments, such as housing. Investors are usually feeling confident, or bullish, and willing to take on more risk in their portfolio during this period.

Clearly a bull market should be reflected positively in an investment portfolio’s value increasing. Whilst an increase in your investment valuation is a positive thing, the risk is often that investors gradually start to disbelieve that it can also fall in equal measure. Many say that since 2009/10 we’ve been in the most cautious, unloved bull market in history, yet it has also been one of the longest depending on how you interpret the data. Why unloved? Partly due to the returns over this period not reaching the magnitude of previous bull markets and also the development of fast journalism. Recycled stories from previous financial crises has probably led to increased investor skepticism, as we are now fed a 24-hour cycle of news from multiple sources.

A bear market occurs when prices fall 20% or more. Investors’ confidence is mauled and they become increasingly negative on the future aka “bearish”. Selling of assets increases as investors jump ship to avoid further losses and safe-haven assets such as government bonds and cash become more favourable. It can quite often be linked to economic recessions but not always.

A Correction, as several stock markets recently experienced in the final quarter of 2018, is defined as a 10% or more decrease in the valuation of a market since its recent high. A correction can last for a period of days or months. Although a sudden 10% decrease may sound daunting, particularly for new entrants to an investment, markets often view them as a healthy way to re-calibrate valuations of assets that have become expensive to buy or hold. For shrewd investors, it potentially gives them the chance to grab a bargain and purchase good stocks for less, like a Boxing Day sale.

The stock market, on average, has had one correction per year over the last century. If you put that in perspective, you can expect to see as many birthdays in your lifetime as corrections. So why are so many investors afraid of them? The often sporadic nature of them can scare people into acting irrationally and making knee-jerk reactions. Yet in reality, most corrections are over before you know it. If you stay on-board, the storm is likely to pass.

The chart below demonstrates the duration and returns of previous bull and bear markets of the US’s S&P 500 Index since 1926 to 2018. The data shows that whilst a loss of 41.4% (at the extreme end) can be experienced in one year, it can also be preceded by 5.1 years of gains totalling 108% and succeeded by 9.3 years of gains totalling 350%. When you put that level of loss into perspective and remember the long-term nature of investing, it makes it easier to take on the bear.

Source: First Trust Portfolios and Morningstar

Bull and bear markets often coincide with the economic cycle, a natural fluctuation of growth within an economy, which consists of four defined phases: expansion, peak, contraction and trough. The onset of a bull market is often a leading indicator of the economic expansion phase. Likewise, bear markets usually set in before an economic contraction takes hold.

So how do they affect your investments?

In the case of a Correction or bear market, investors shouldn’t feel compelled to tweak their portfolio in reaction to short-term negative market movements. They should remember their long-term objectives. An increase in volatility can act as a dress rehearsal to show your portfolio’s resilience to market movements. If you find the volatility means you can’t sleep at night, you might need to consider de-risking to apply some more protection. If your goals and time-frame haven’t changed, history tells us that investors who stay as they are benefit in the long run because they fully participate when the market rebounds.

In the case of a bull market, your portfolio is likely to gain in value as the economy expands, confidence increases, asset prices rise and riskier assets become more favourable. Just remember that it won’t last forever and the next negative movement might not be too far away.

As the chart above demonstrated, sharp, short-term losses are to be expected when investing, but they are also usually cushioned by much longer periods of higher returns. If you have an investment time horizon of at least three years, you should be able to ride out these periods without having to hibernate.

Here at Milford, we have an experienced team who are able to break down the jargon and talk you through your options in times of uncertainty, in order to protect the assets you’ve worked so hard for.