Thursday, January 5, 2012

5 strategies to follow in a bear market

Most small investors enter the stock market when a bull market is nearing its peak. They don’t have clear goals and strategies, and get caught on the wrong foot by the bear market that inevitably follows. The trauma of losing money in a hurry can be soul-destroying.

Without the necessary skills and experience of surviving in a bear market, investors resort to all kinds of ill-advised strategies in an effort to quickly recover the losses. That only makes a bad situation worse.

The current bear phases in the Sensex and Nifty indices are 14 months old, and so far there has been very little indication of a reversal in the down trends. Experts are saying that the bear phase can last till the first half of Financial Year 2012-13. If they are right, the bear market may sustain till Sep 2012 – another 9 months!

Whether you are one of the unfortunates who are ‘stuck’ at higher levels, or a more seasoned investor who is sitting on cash to deploy at lower levels, here are 5 strategies that you may want to follow in the current bear market:-

1. Remember that bear market rallies are sharp and swift. Don’t jump in by thinking that you will miss a buying opportunity at a low entry price. Such rallies are some times ‘created’ by bears so that they can sell at a higher price.

2. Just because a stock has fallen to a 52 week low doesn’t mean it can’t fall any lower. As long as the trend is down, it can fall lower. If it is worth buying, being patient can help you to enter at a much lower price.

3. A sharp vertical drop in price – often accompanied by strong volumes - usually attracts a lot of buyers who believe that they are being smart by entering at a low price. It is the sign of a ‘panic bottom’, which seldom holds. Prices bounce up on the buying, but then fall lower than the ‘panic bottom’.

4. At the risk of sounding like a broken record (or, a damaged CD) – do not, repeat do not, average down in price. No one knows how much further a stock’s price will fall, or worse still, if it will ever recover (e.g. Cranes Software). It is far better to average up once the price forms a bottom and starts its up move.

5. Major down trends are not reversed in a day or a week. Bottom reversal patterns take a few weeks to a few months to form. Ability to ‘read’ chart patterns can help investors to accumulate a stock while a reversal pattern is ongoing (refer Chapter 7: Reversal Patterns of my free eBook: Technical Analysis – an Introduction).

If you can’t ‘read’ a reversal pattern, don’t worry. Eventually, prices will turn up and a new bull market will begin. You may enter at a higher price, but the chances of a loss can be minimised by using a trailing stop-loss.

Related Posts

Five things you should avoid in a bear market
Five more things to avoid in a Bear Market


numan said...

Hi Subhankar,

Thanks for the wonderful posts, it certainly helps new investors like me!

For your point no. 4: I think I am doing the same mistake currently. Is this point holds good for all stocks including blue chips and for the ones where you are convinced about the company? How about MF's where all analysts ask only to SIP regularly to "average" the cost?

I invest only in MFs as I don't have enough bandwidth to research a company and invest. I really get your point, but is it bad even to SIP good diversified MF during the periods like this?

Thanks again and keep up your wonderful spirit of educating younger souls like me.


Subhankar said...

Hi Sri,

Thanks for the kind words.

Most small investors 'average down' because they are in a losing position - not because they have done due diligence. It may be better to set a stop-loss and get out with a small loss if the market goes against you. Much better to buy and 'average up' during a bull market.

If you are disciplined about your SIP investments, don't discontinue them. But remember that your 'average price' will be higher than the NAV during a bear phase.

A value averaging plan gives better returns than a cost averaging plan (like SIP). You may want to read my post of Sep 24, 2009 on the topic.