What Is a Bear Market?

Bear Market Explained

A bear market occurs when broad market prices fall at least 20% from the most recent high over a few months.

There are many different reasons a bear market occurs. Learn more about them, the associated economic conditions, and what it means to you.

Definition and Examples of a Bear Market

Stock prices fall due to the influence of investor sentiment, economic conditions, interest rates, and many other factors. The Securities and Exchange Commission (SEC) defines a bear market as a broad market index decline of 20% or more over at least two months. According to the investment company Invesco, the average length of a bear market is 363 days.

While there have been several bear markets in U.S. history, the economy generally spends more time expanding than contracting. This means that the market spends more time as a bull than a bear. Since less time is spent in bear markets than bull markets, they tend to become highly publicized occurrences.

Here are a few of the most notable bear markets in the U.S.

Great Depression Bear Market

The Great Depression bear market was the worst in U.S. history. The Dow fell 90% in less than four years, peaking at 381 on September 3, 1929, and falling to 41.22 by July 8, 1932. The major event behind the bear was the 1929 stock market crash. This crash followed the popping of an asset bubble caused by a financial invention called "buying on margin." This allowed people to borrow money from their broker and only put down 10% to 20% of the stock value.

It's generally accepted by industry experts that there have been around 26 bear markets since 1929.

2008 Bear Market

The second-worst, by percentage, was the 2008 bear market. It began on October 9, 2007, when the Dow closed at 14,164.53. On March 9, 2009, it closed at 6,547.05 The bear market was caused by the 2008 stock market crash, the failure of several financial and insurance institutions, and the reluctance of Congress to restore confidence by passing a bailout. It didn't end until the government launched the economic stimulus plan of 2009. The Dow didn't regain its 2007 high until March 5, 2013, when it closed at 14,253.77.

1973 Bear Market

The third-worst, percentage-wise, was the 1973 bear market. On January 11, 1973, the Dow closed at 1,051.70. By December 4, 1974, the Dow had fallen to 598.40. One factor that contributed to this bear market was the decision by President Richard Nixon to end the gold standard, which was followed by a period of inflation.

2000 Bear Market

The 2000 bear market ended what had been at the time the greatest bull market in U.S. history. It began on January 14, 2000, when the Dow closed at 11,722.98. The benchmark fell 37.8% until it hit its bottom of 7,286.27 on October 9, 2002. This bear market triggered the 2001 recession, compounded by the 9/11 terrorist attacks, which shut down stock exchanges and shocked the world.

1970 Bear Market

The 1970 bear market began on December 31, 1968, when the Dow closed at 943.75. It dropped more than 30% before bottoming out at 631.16 on May 26, 1970.

2020 Bear Market

As COVID-19 swept across the country, the Dow Jones Industrial Average dropped from its high of 29,551.42 on February 12 to close at 18,591.93 on March 23.

While financially painful, the bear market in 2020 was short-lived and relatively small compared to other bear markets.

How Does a Bear Market Work?

Bear markets can occur in any asset class. In stocks, a bear market is typically measured by an index like the Dow, the S&P 500, or the NASDAQ Composite. In bonds, a bear market can occur in U.S. Treasuries, municipal bonds, or corporate bonds. Bear markets also occur in currencies, gold, and commodities like oil.

A bear market is generally caused by a loss of investor, business, and consumer confidence. Here's how it typically plays out.

The Bear Market Begins

Bear markets follow bull markets. After a time, bull markets reach a point where investors experience irrational exuberance, causing prices to rise too high. This overvalues assets being traded on the market, and investors begin to anticipate falling prices. They begin to sell their investments, which causes prices to fall.

This loss of confidence can be triggered by falling housing prices, high interest rates, economic circumstances, natural events, or anything that shatters positive investor sentiment.

Investors also worry about bear markets after a stock market correction, which is less sudden than a crash. Corrections occur when prices decrease by 10% over weeks or months.

The Bear Market Rallies

A bear market rally takes place when the stock market posts gains for days or even weeks. This movement can easily trick many investors into thinking the stock market trend has reversed and a new bull market has begun. However, the stock market never moves in a clean, straight line, and these rallies amount to blips in an otherwise downward trend. Thus, it isn't unusual for a bear market to experience days or months of upward momentum and turn downward again.

The Bear Market Ends

Bear markets can sometimes lead to a recession if the economy is affected enough. They can last a few months to a few years, but the economy is not considered to be in a recession until the National Bureau of Economic Research decides that specific conditions—the depth and diffusion of financial loss, and the duration of the downturn—have been met.

A bear market typically ends when prices reach a point that they can no longer drop anymore, and investor sentiment begins to rise. Consumer and business confidence rise as well, and market prices begin a long climb. When stocks gain 20% from their latest low, the bear market is considered over, and a bull market begins, marking a broad market recovery.

Types of Bear Markets

Regular bear markets, where prices drop and take a few months to a year to rise, are called cyclical bear markets. Cyclical bear markets tend to be shorter, such as months or a year.

Whenever the market begins to display bearish qualities, analysts and investors often wonder whether the bear will be cyclical or secular. Unfortunately, there's no clear answer, especially while the market is amidst one of these shifts.

A secular bear market lasts longer and is driven by long-term trends rather than short-term sentiments. Cyclical bear markets can occur within a secular bear market.

What It Means For Investors

A bear market, as a lengthy decline in prices, causes many investors to switch to an investing strategy of maintaining their capital instead of growing it. Others may try to capitalize on assets that historically have better returns than stocks during a bear market, such as precious metals or Treasuries.

You can prepare for a bear market by reducing risk in your portfolio. For example, you can increase the amount of cash and reduce the number of growth stocks in your portfolio. You can also select bonds or mutual funds that perform better during a bear market, such as gold funds and sector funds that focus on health care and consumer staples.

During a bond bear market, individual bonds are safer than bond funds. This is because their interest rates and payments are fixed. If you hold onto the bond until it matures, you will receive the promised amount unless the issuer defaults. In bond funds, the manager may choose to buy or sell bonds before they mature, and you could lose money in the process.

Key Takeaways

  • When the broad stock market drops 20% over a few months, it is called a bear market.
  • The broad market spends more time in a state in increasing prices, so bear markets are not as common as bull markets.
  • Bear markets typically follow a loss of investor, business, and consumer confidence.
  • There are two types of bear markets—secular and cyclical.