Understanding the highs and lows of the stock market can sometimes feel like trying to predict the weather. One minute it’s sunny and the next heavy rain is falling. One day you need a winter jacket and the next it’s flip flop season. While these weather changes might seem random, if you look closely enough, you’ll begin to see the patterns. While it’s sad to see the lazy hazy days of summer leave, you know they’ll be back.
The stock market also has patterns, which are often called cycles. The natural cycle of markets is to rise and fall. Even though the falls can be scary (the Covid-19 pandemic and the global financial crisis of 2008 are two examples), the stock market continues to cycle and rise again. These cycles can last days or even years but once you understand the patterns it’s easier to focus on the longer term.
Want to know more about market cycles? Let’s dive in.
Why do markets “cycle”?
As time goes by, there are more and more people in the world. And with technological improvements, companies and their employees can be more productive and produce more products and services. If the demand for a product or service increases, its value increases – and so does the overall value of the company who produces it. That’s what stock prices are – a reflection of the value of the companies they represent.
While long-term trends show that stock prices are rising, it doesn’t mean there won’t be dips in the market along the way. There are several reasons stock prices fall – access to labour, interest rate changes, geopolitical disruptions, changes to consumer purchasing choices or there’s a global shortage of a key commodity, like oil.
Even things like investor expectations or perceptions can affect stock prices. Investors can also misjudge the value of companies and how profitable they’ll be in the future. You may have heard the phrase “stock market bubble” – this is when investors rush to buy stocks and bid up prices beyond what the companies are worth. When this bubble bursts, stock prices fall.
Even when markets fall, some investors see this as a good time to start investing. And after the fall, increases in spending, fewer layoffs and other related factors can help bring things full circle – with the market rising once again.
What’s a bull market?
A bull market refers to a period when stock prices consistently rise – as they did in the U.S stock market from 2009 - 2020. The economy had recovered from the 2008 bear market and while individual stock prices and the market fell in value during this time, overall, it was the longest modern era bull market and lasted until the Covid-19 pandemic.
Many people use the term “bull market” as a general reference to strong and rising markets. The most common definition is when stock prices rise over 20% during a specific period without dropping an equal amount. (For example, even if the market fell 11% during this period, if prices rebounded and kept rising it wouldn’t end the bull market.)
During this “bullish” period in the market cycle, investors can get very optimistic and confident, leading to what’s called “irrational exuberance.” This can lead people to leave their carefully planned, long-term strategies and to take on more investment risk by buying stocks when markets are peaking.
Rising stock markets often happen with increasing corporate profits, a growing economy, higher wages and lower unemployment.
What’s a bear market?
The opposite of a bull market is a bear market. When most people think of bear markets, they think of a continued fall in prices. As for the definition, a bear market is a scenario where stocks fall 20% or more without rising an equal amount.
Sometimes there are declines that might not be categorized as a bear market, declines from highs of approx. 10%. These are called "corrections" and happen when stocks fall around 10% can be a result of an overreaction to a specific event. This is a common cause of panic as it is shorter-term volatility
Falling prices can lead to stress and worry – sometimes, people make investment decisions based on emotions instead of facts. Investors often sell otherwise “quality” stocks at low prices.
For example, a company with a good business model and smart management may see its stock price fall because the market did, but not because anything changed at the company. Investors might be tempted to sell these stocks or mutual funds instead of holding out for the long term.
A bear market isn’t the same thing as what’s called a stock market crash. A stock market crash is used to describe headline-grabbing, dramatic plunges in the market that happen in a day or two. Bear markets are a longer, drawn-out fall in prices.
How long do market cycles last?
There’s no simple answer. A full market cycle is usually defined as the period between two highs. In other words, a bull market, then bear market and then another bull market.
The exact timing of these cycles changing can’t be predicted, which is challenging. What we do know, is that the historical trend shows that stock prices are continually rising.
That means that a well-planned, long-term strategy can be important as you stay focused on your investing goals. And you don’t have to do it all by yourself. Talk to an advisor for help creating a strategy suited to your needs.
This information is general in nature and is intended for informational purposes only. For specific situations you should consult the appropriate legal, accounting or tax advisor.
October 21, 2019
October 21, 2019
October 21, 2019