Strategies to Protect Your Money During a Bear Market
First, let’s clear up a widely-held myth and make sure that you and I are on the same page concerning what a bear market (and by contrast, what a bull market) is. A bear market is quite simply a prolonged period in which investment or securities prices decline in value. Note that in my definition nowhere is the word stock price decline. It’s a myth that only the stock or equities market experiences a bear market. The truth is that all of the capital markets (stock, bond, commodity, real estate, managed futures, private equity, etc) may and do experience both bull and bear markets. How far must prices fall and how long the fall must last for all to agree that it’s a bear market? Well, that’s another article and another time.
However, now that we are on the same page, here are 3 Strategies that you can use to help protect your invested capital during a bear market:
(1) Don’t over-concentrate: I submit that this could be the single most important Investment Policy decision you make. Limit the amount of capital you invest into any single investment or asset class to twenty (to a maximum of thirty) percent of your Net Worth. Here’s a real-life illustration that you can relate to that will help you understand our rationale. In manufacturing, there are many engineering acronyms. Two such acronyms have direct application to investing. They are MTBF and MTTR (mean-time between failure and mean-time to recovery, respectively). The idea behind MTBF is to build a product in such a way that you increase the amount of time a customer can get good use from that product (such as an automobile) before it breaks. However, once it breaks, the idea becomes to minimize the amount of time it takes to return the product to its original performance condition. You’ll remember that the Japanese automakers took advantage of this MTBF-MTTR principle to gain a substantial, sometimes predominant, foot-hold in the US automobile marketplace during the 1970s and 80s by building very reliable cars. Well, this same principle holds true in investing. When you over-concentrate your investment capital, you violate the principles of MTBF-MTTR. All investments have periods when they decline in value (or fail) as a related group or market. Consistent with the principle of MTBF, being overly concentrated means that you could experience a disproportionate loss of your capital during these price deterioration periods. To make matters worse, consistent with the principle of MTTR, your recovery time could be disproportionately increased, because you have a further distance to recuperate.
(2) Add Capital or Re-balance: Investments are emotionally unlike any other commodity you buy. Just think about it. When you learn that your favorite boutique, product brand, or department store is having a sale, what do you do? You rush to take advantage of the opportunity. Why? Because you recognize that the sale will not last forever and the commodity, which has value to you, can be purchased at a discount that allows you to buy more of it for less money. You behave as if you fully expect the price of this on-sale commodity to return to normal after the sale is over. However, when it comes to buying investments, you behave very differently. Why? I suppose it’s because when it comes to other merchandise, you know exactly when the sale will be over. Bear Markets can present you, if you are emotionally-intelligent, with a giant opportunity for growth. The bear market is that rare period when lost time and capital could be recovered if you are decisive; and it’s where future fortunes could be built if you are optimistic. You need look no further than the successful real estate investor. Aren’t they notorious for accumulating properties during periods when real estate is suffering from a prolonged period of price decline? Isn’t this the same period when others are afraid to invest, because of the prevalence of so-called distressed or foreclosed real estate? No matter the capital market, you will find these cycles of bull and bear. Unfortunately, in most instances your money chases the bull (buy high) and runs from the bear (buy low).
(3) Don’t Make Withdrawals: If you’d like to magnify your losses and really lose money, go ahead…take withdrawals from an account that is already declining in value. Surely, one of the worst things you can do during a bear market is to make withdrawals from the declining account. To protect your investments, this is the time when you need emergency savings and opportunity reserves to withdraw from if you need income. Taking income is not an option.
If you will integrate these strategies into your Investment Policy, you should be positioned to handle the fiercest of bear markets.
