What Is a Bear Market?
Introduction
Financial markets follow trends. Understanding the differences between these trends is essential for making better investment decisions. As a result of different market trends, market conditions can be drastically different. How would you be able to adjust to changing conditions if you don't know what the underlying trend is?
Market trends can be defined as the trend in which the market is moving in. For instance, a bear market is one in which prices tend to decline. Trading or investing in bear markets can be a challenge for new traders, especially for beginners.
In recent years, most crypto traders and analysts have come to the conclusion that Bitcoin has been experiencing a macro bull trend throughout its life. However, there have been several relentless bear markets in the cryptocurrency market. Bitcoin suffers a decline in price which is in excess of 80%, while altcoins can easily experience a decline in price that is more than 90%. Now, what can you do when this happens?
You will learn what a bear market is in this article, how to prepare for it, and how you may be able to profit from it.
What is a bear market?
Bear markets can be defined as a period in which the price of stocks declines in the financial markets. Inexperienced traders may find it difficult to deal with bear markets, as they are extremely risky. This can easily result in large losses and scare investors away from ever considering investing again in the financial markets.
It's a common saying among traders: "Stairs up, elevators down." This means that moves on the up side tend to be slow and steady, while moves on the downside tend to be more dramatic and violent. Why? Many traders rush to get out of the markets when the price starts crashing. The reason why they do that is that they either want to lock in profits from their long positions, or they want to stay in cash. The result of this is often a domino effect, where sellers rushing to the exit leads to even more sellers terminating their positions, and so on.
Drops in the market can be amplified even more if the market is highly leveraged. The cascading effect of mass liquidations will have an even greater impact, leading to violent market drops.
As a result, there can be euphoric phases in bull markets as well. At this point in time, the markets are experiencing extreme price increases, correlations have risen substantially, and the price of most assets has risen simultaneously with the market.
An investor "bearish" in a bear market expects that prices will decline, which is the norm in a bear market. As a result, market sentiment is usually low during a bear market. There is also a possibility that this does not mean that all short-term traders are actively shorting stocks. In other words, they are expecting prices to decline and may be positioning themselves accordingly if an opportunity arises.
Bear market examples
As discussed previously, many investors believe that Bitcoin is in a macro bull trend since it started trading. Does this mean there are no bear markets within this bull run? It has been quite a brutal bear market since Bitcoin climbed to around $20,000 in December 2017.
The bear market low in July 2020 is around $3,000, but the range of the previous bear market low has been retested but has not yet been broken. There would be a stronger argument that a multi-year Bitcoin bear market still exists if that low had been breached.
The argument can be made that, since this level has not been broken, the crash following COVID-19 fears was only a retest of the range. There are, however, no guarantees in technical analysis, only probabilities.
Stock markets are another example of a bear market that has occurred. There are a number of noteworthy examples of stock market crashes, such as the Great Depression, the 2008 Financial Crisis, and the 2020 stock market crash caused by the Coronavirus pandemic. There are a number of events which have led to a great deal of damage on Wall Street and have affected stock prices across the board. There can be significant price declines in market indexes such as the Nasdaq 100, the Dow Jones Industrial Average (DJIA), or the S&P 500 index during periods such as these.
Bear market vs. bull market – what’s the difference?
The difference is quite obvious. Prices rise in a bull market, while prices fall in a bear market. There is at least one notable difference between bull and bear markets that is that bear markets can have long periods of consolidation, i.e. sideways or ranging price action. The market volatility is generally low at these times, and there is not much trading going on during that time.
While it is true that the same may be true during bull markets, this kind of behavior can be seen more frequently during bear markets. For most investors, falling prices for an extended period of time is not an attractive prospect.
A further thing to consider is whether it is even possible to enter a short position on an asset. There is no other possibility for traders to express a bearish view on the market than to sell for cash or to use stablecoins if there is no way to short an asset on margin. it could be a longer and more drawn-out downtrend with little buying interest, resulting in a long and uneventful sideways trend.
How to trade in a bear market
In a bear market, traders can use one of the simplest strategies to generate profits by staying in cash (or stablecoins). If you're not comfortable with your investment portfolio declining in value, you might want to simply wait until the market is no longer in bear market territory. If there's a chance that there's going to be a new bull market in the future, you'll be able to take advantage of it when it arrives. However, if you're looking to invest for the long-term, you should be aware that a bear market is not necessarily a signal to sell if your investment time horizon is many years or decades in the future.
To trade and invest, it is generally a better idea to follow the trend of a market, regardless of what direction the market is going in. This is why another lucrative strategy that could be used in bear markets would be to open short positions. As a result, traders can profit from a decline in asset prices when the price of the asset is going down. These can be day trades, swing trades, position trades - only important is that the main purpose of such a trade is to simply go along with the trend. In that regard, many contrarian traders will search for trades that are "counter-trend" trades, which refers to trades that are going against the direction of the major trend.
It is possible to enter a long position on a bounce when the market is in a bear market. The movement is sometimes referred to as a "bear market rally" or a "dead cat bounce".Despite the fact that counter-trend price moves can be notoriously volatile, many traders are inclined to take advantage of the opportunity to long a short-term bounce. In the short term, it has not yet been confirmed that the overall bear market is over, but the assumption is that the downtrend will resume soon after the bounce.
This is a reason why successful traders will take profit (around the recent highs) and leave the market before the bear trend resumes. As a result, they could be stuck in their long positions for the duration of the bear market. Because of this, it's important to note that this type of strategy is very risky. Trying to catch a knife that is falling can result in significant losses for the most advanced traders.