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Four tips to help you cope with the bear market.
Four tips to help you cope with the bear market
Peter Hodson Oct 7, 2011
Well, it was official, at least for a day. The TSX entered a bear market
this week, at one point down 24% from its peak in March 2011, and below
the 20% decline that is the sign of the bear. A big mid-week bounce
however, trimmed the drop to 18%.
As you sit in your living room afraid to open your investment portfolio
statement that just arrived from September, itís little solace to know
that you have at least made a little bit back so far in October. What to
do now? Earlier this year ó when the market was only down 10% ó I wrote a
column on what to do in a big decline.
Since the market has stayed extremely volatile, I thought I better add a
few more survival strategies, just in case this market starts doing what
it did in 2008 and early 2009.
First, face facts: We are probably in a bear market. Donít deny it.
Accept it. We are likely heading into a recession also. Again, accept it.
Pretending it is not happening will only make it worse and cause you to
do the wrong things. In a bear market/recession, stock markets can go
down a lot, consistently. As they are doing these days, markets such as
the TSX Index can lose 2%, 3%, 4% day in and day out.
You may think that after four or five consecutive days of 3% losses you
might be able to trade a bounce in the market. Surely, you say to
yourself, the market canít go down so much, every single day. You need to
watch thinking like this. Sure, you might get a bounce, but you might get
further declines, or accelerating declines. Now, your short-term trade
has turned into a long-term problem, and you now have no cash left for
when conditions actually do improve. Forget timing the bounce.
Second, remember that diversification will offer you absolutely no
protection. When investors sell en masse, they sell everything. You might
think that a diversified portfolio will protect you, but in a bear
market/recession, it likely wonít. These days, correlation between all
asset classes is running at 0.87, where typically it would be near 0.35.
In other words, everything moves the same way. Your nice safe pipeline
company? Itís probably down 7% this week alone. Gold as protection? Not
this fall, with gold down US$300 an ounce in the space of a few weeks.
Accept the fact that everything you own will go down until the bear
market is over. Ask yourself if you can handle that, and for how long.
Third, try to figure out where the floor is. Whatís the tangible book
value of the companies whose stocks you own? What is their net cash
(after debt) position? If you know what your floor is, you are less
likely to panic. The idea is to buy companies whose floor is near where
they are trading. Sure, be a value investor these days. Everything is
going down, so buy the names that will stop going down first, because of
that underlying asset protection. If we get into a 2008 scenario, when
companies were trading for less than their cash balances, then thatís
when you can start being aggressive.
Fourth, watch out for liquidity traps. There are no buyers out there it
seems, so donít set your sell order at ďmarket price.Ē In a market like
we are experiencing right now, even the most liquid names can suddenly
dry up and drop quickly. Remember the flash crash? Donít get caught if it
happens again by setting a precise price. Stay away from Stop-Loss
orders. They will get triggered and turn into market orders at the exact
Finally, watch out for rumours. This week, a prominent Canadian
investment company was the subject of Street rumours that it was in
trouble ó i.e. seeing massive redemptions due to investment losses. The
company denied it of course, but the rumour caused additional selling
pressure on the investments the fund was known to hold. Donít act on
rumours, whatever you do. Still, remember that rumours can still be
powerful, especially on companies that depend on confidence. One of the
key problems of 2008 was that bankruptcy rumours caused funding to
financial companies to dry up. Once funding died, so did those companies.
Goldman Sachs and Morgan Stanley were both the subject of rumours this
week, because of their exposure to Europe. Whether true or not, they are
down 48% and 55% so far this year, respectively. In this market,
investors may tend to believe anything they hear, because all they really
want to do is go to cash until this bear market is over.
ó Peter Hodson, CFA, has 25 years of investment experience and is CEO of
5i Research Inc., an independent investment research network. Visit
Posted in: Investing Tags: Bear Market, Equities, Stock Market, Toronto
Stock Exchange, TSX
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