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What is the stock market doing?

Run with the Bulls or Bears

The terms bull and bear as adjectives are touted frequently within the stock market.  Traders love the rallying bull market, but speak with trepidation of a falling bear market.  It is critical that you can read the underlying factors of a pending bull or bear market trend, allowing you to prepare your portfolio for aggression or conservative moves.

History of the terminology

The two terms have had a historical run, though it is unknown exactly how they started.  The first thought relates to how these two animals attack.  Once used in arena fighting, bulls fought by driving their horns up, and bears fought by swiping their claws down.  Hence, the bull market demonstrates upwards movement, while the bear forebodes falling times.  The other theory relates to the time where bearskins were a commodity.  Middlemen would sell skins that they were still waiting on to be delivered.  If the price of skins dropped, they made a profit from the difference between their original sales prices.  These men became known as bearskin jobbers, or bears, and the term stuck for people who hoped for a decrease in the market.

Bull and bear fundamentals

Bull and bear markets are ways to describe how the stock market is acting in general.  A bull market is when the market is going up and share prices are increasing.  Employment levels are typically on the rise and the economy is going strong.

The opposite of this is a bear market.  The market is declining with prices diminishing.  The economy is usually slower and many companies are lying off workers.

Predicting bullish or bearish turns

While not steadfast rules, there are certain indicators that you can monitor to determine if the market will turn bearish or bullish.  

For starters, there is the dynamics stemming from the supply and demand for stocks.  When it is a bull market, there is more demand than supply.  Share prices rise to new levels.  In a bear market, there is more supply than demand, and subsequently, overall prices go down.

Next, you can review investor psychology and its impact on trading volume.  Much of the market’s behavior happens because of how people feel.  If investors anticipate a bull market, then the volume of trading increases, as more people are hoping to turn a profit.  However, if investors believe a bear market is on the horizon, investors shy away and put their money into more secure investments, which effectively causes prices to drop.
Lastly, you can monitor changes in the economic activity.  How most businesses perform is directly linked to the health of the overall economy.  A bear market generally happens when the economy is weak, and businesses cannot demonstrate profitable growth because consumers are minimizing their purchases.  During a strong economy, the market becomes bullish, as more people have money to spend, increasing profits for the business, thus raising the value of their stocks.

Portfolio strategies

Small movements are not as important as larger trends in determining the market conditions.  Obviously, the amount of time that you spend watching the market will influence your perception of it.  For instance, if you watch for two weeks and see a bullish trend, you may think that the overall market is bullish.  Look over the information of the last two months, however, and you may see that instead it is bearish.  Most investors look for a change of at least 10% to conclude that the market is changing.  Also, you need to keep in mind that sometimes the market will stay stagnant, instead of going one way or the other.  This sideways market is considered the most difficult in which to trade, as the fluctuations are unpredictable and there are no upward or downward trends.  

In a bull market, the smart strategy is to buy early and sell when you think prices have hit their peak.  You are most likely to make a profit in a bull market, and any losses are usually minor.  Many investors are comfortable taking bigger risks during a bull market, as the prospects are positive that the market and stock will continue to grow. 

In a bear market, risks are higher, and you are likely to see things sink further before they turn around.  You can make the most money with safer investments or short selling, or investing in blue chip stocks that are not as affected by market trends.

Whether the market turns bullish or bearish, it is critical that you prepare your portfolio for the changes.  Even in a bullish market, you should consistently reevaluate your portfolio’s performance, finding peak price points to sell.  On the other hand, if a bearish market is approaching, you may want to take your money on the side – or sell short to take advantage of the diminishing prices.  Either way, bull or bear, you can find ways to trade successfully, but it is critical to become aware of the changing market times.

The fluctuating nature of the stock market is often referred to as either a “bull” or “bear” market.  However, no matter which way a market is headed, the savvy investor merely adjusts their trading strategy and trades accordingly.

The fundamentals of the bull and bear

The bear and bull indicators are symbolic of how investors are feeling about the market.  The bull market refers to the market when it is going up, showing an increase in share prices.  The economy is usually strong and unemployment rates are low.  The bear market is the opposite, with the stock market declining.  Share prices go down, the economy is slow, and unemployment rates are on the rise.

There are several explanations from where the terms originate.  The first explanation relates to how these animals attack.  A bull drives its horns up, while a bear would swipe down.  Bears and bulls were also often pitted against each other in arena fight matches in ancient times.  

The other thought comes from the time when bearskins were sold.  Middlemen used to sell bear skins that had not yet been delivered, hoping that prices would drop so that they could make a profit.  These middlemen became known as bears, or bearskin jobbers, and the term became popular for describing someone who hoped for a drop in the market.

Watching for signs of market direction change

There are several characteristics that you can watch for in determining the direction of the markets, though nothing with trading is ever cast in stone.  When the market is bullish, it is a seller’s market evidenced by increased demand and low supply for stocks.  Share prices go up as a result. When the market is bearish, it is a buyer’s market as there are more people selling than buying, and therefore prices tend to decrease. 

Investor sentiment is the intuitive feeling of the investment community as to the direction the market is heading.  When the market is bullish, everyone is interested, since there is a greater chance to make a profit.  Thus, the volume in trading increases.  In a bearish market, investors are moving their money out of the market, and thus, the volume dips.  In addition, a bearish stock market causes the popularity of other investment vehicles to rise, such as bonds or real estate. 

Gauging the market

The most important thing is to learn how to gauge the market.  Whether the market is bullish or bearish depends on the long term perspective.  Thus, the amount of time you watch the market can impact what you see.  Many investors watch for a change in one direction of at least 10 to 15% before saying that the market is changing direction.  Often this simple perception will make the market change direction, since optimistic investors will help to drive the stock prices up, while pessimism will cause a selling frenzy.

Regardless if the market is bullish or bearish, it is critical that you develop investing strategies to trade effectively in both directions.  When the market is bullish, a win strategy is to buy stocks and hold them until the market momentum subsides and then selling your shares at or near the price peak.  In a bear market, selling short or buying stock puts allow one to ride the market down. Again, when the selling subsides, covering shorts and closing out puts will result in increases to your investment account.  You can significantly profit from selling short, a strategy that made some traders millions during the dot com crash. 

However, if you are more of a passive trader, then it may be ideal to put your money to the side during bearish times. During bear markets, “cash is king”. Be ready to capitalize on the down-trodden stocks that while priced low have identifiable value that will show itself when the market turns. While savvy investments may make you a profit in the long term, you may take losses in the short term waiting for the market to go bullish again.
 
Understanding Market Fundamentals

Warren Buffet may be one of the best investors, even though he will likely not admit it.  He claims that his success is due to the skills he learned from his mentor Benjamin Graham.  Benjamin Graham was one of the forefathers of financial investing, specifically for value investing and security analysis.  From Graham and Buffet’s success, there emerge three powerful yet fundamental principles that can help you make the most of your investment strategy.

Principle #1:  Safety Margin

The first principle is investing with a safety margin.  This involves buying a security at a significant discount.  This can help provide you with higher returns, but also at a lower risk.  If you can get an asset worth $1 for only $0.50, that is a good investment with a strong safety margin.

These investments have value because they are stable earners, and also because they are liquid.  The idea is to have stocks whose liquid assets have more value than the total market cap. This exemplifies the adage, “the parts are worth more than the whole”.  In the end, you are essentially buying companies for free. In the seventies and eighties, corporate raiders would gain control of a company and then sell off its components and vaporizing the original company. One doesn’t have to do that necessarily. Often, those parts can be optimized thus making the whole company worth more.

This idea is important since this style of investing allows for large profits once the stock price is re-evaluated.  If the business fails, you still have some level of protection since you bought the stock at less than it was worth.  In general, however, further decline in these stocks happens rarely, and thus, they are a relatively safe bet.

Principle #2:  Earning from volatility

The second principle is about learning how to profit from volatility.  There is an inherent instability of investing in stocks.  While less experienced investors will be scrambling to get out when a market starts faltering, a smart investor can find good investments during this time. A smart investor is both a seller and a buyer. J.P. Morgan once said “There is money to be made when there is blood in the streets”.

It is important that you do not let the stock market run you and make your financial decisions for you.  Make your decisions based on how much you believe a business is worth after you have analyzed it.  You should buy when the market is down and sell when it goes up.  The market is always going to change, and if you keep your head up, you can use this to your advantage and buy bargains.

There are two different ways of implementing this strategy.  Dollar-cost averaging means buying investments at regular intervals for the same amount of money.  You can take advantage of price drops this way, and you will not end up buying all of your investment at the highest price.  The other strategy is to invest in both stocks and bonds.  By having a portion of your investment in bonds, you can help protect your capital.  You will also be less tempted to get into speculating with the hopes of seeing a huge profit.

Principle #3:  To thy own financial self be true 

The third principle involves knowing yourself as an investor.  There are two main types – active and passive investors.  This means you have two basic choices – make a commitment of time and energy to gain the experience you need to become a great investor and find higher returns – or be content to invest in lower risk and lower return investments that require less work for you.  With this philosophy, there is a direct correlation between the amount of work you put into investing and the amount of money that you can earn from it.

If neither style fits you exactly, then index investing is a good option.  This will help you get an average return with a defensive strategy. Remember, not all of us have the same philosophy about making and keeping money. Some focus only on making more while others concentrate on keeping what they already have. The best attitude blends those two objectives since by themselves, neither one is completely sound.

Warren Buffet, one of the richest men in the world, built his financial empire upon these three solid investing principles.  With thoughtfulness, research, and financial steadiness, you can also garner tremendous profits from the stock market.