Explainer: Why is Wall Street so close to a bear market?

New York (AFP) – Bears are heading towards Wall Street.

This year’s stock market slump has pushed the S&P 500 index close to what’s known as a bear market. High interest rates, high inflation, the war in Ukraine and a slowing Chinese economy have caused investors to reconsider the prices they are willing to pay for a wide range of stocks, from high-tech aviation companies to traditional automakers.

The last bear market happened just two years ago, but this will still be a first for those investors who started trading on their phones during the pandemic. For years, thanks in large part to unusual actions by the Federal Reserve, stocks often seemed to go in only one direction: up. Now, the familiar recovery cry of “buy the dip” after each market volatility is giving way to fear that the dip is turning into a crater.

Here are some frequently asked questions about bear markets:


Why is it called a bear market?

A bear market is a term used by Wall Street when an index such as the S&P 500, the Dow Jones Industrial Average, or even an individual stock, is down 20% or more from a recent high for an extended period of time.

Why use a bear to represent a market slump? The bears are hibernating, so the bears are a market in decline, said Sam Stovall, senior investment analyst at CFRA. In contrast, the nickname Wall Street for a rising stock market is a bull market, Stovall said, because the bulls are taking a profit.

The S&P 500 dropped 165.17 points Wednesday to 3,923.68 and is now 18.2% down from its high of 4,796.56 on Jan. 3. The Nasdaq was already in a bear market, down 29% from its peak of 16,057.44 points on November 19. The industry average is down 14.4% from its most recent peak.

The latest bear market for the S&P 500 lasted from February 19, 2020 through March 23, 2020. The index is down 34% in that one-month period. It’s the shortest bear market ever.


What other investors?

Market enemy #1 is interest rates, which are rising rapidly as a result of the high inflation hitting the economy. Low rates act like a stimulant for stocks and other investments, and Wall Street is now on a pullback.

The Federal Reserve has pivoted away from supporting financial markets and the economy at record lows and is focused on fighting inflation. The central bank has already raised its key short-term interest rate from a record low near zero, encouraging investors to shift their funds to riskier assets such as stocks or cryptocurrencies for better returns.

Last week, the Fed signaled additional rate hikes of twice the usual amount and likely in the coming months. Consumer prices are at a four-decade high, up 8.3% in April from a year ago.

Moves by design will slow the economy by making it more expensive to borrow. The risk is that the Fed could cause a recession if it raises interest rates too much or too quickly.

The Russian war in Ukraine also increased the pressure on inflation by raising the prices of basic commodities. Concerns about the Chinese economy, the world’s second largest, added to the gloom.


So we just need to avoid stagnation?

Even if the Fed can carry out the delicate task of curbing inflation without causing deflation, higher interest rates still put downward pressure on stocks.

If customers pay more to borrow money, they can’t buy the same amount of stuff, so less revenue streams into the company’s bottom line. Stocks tend to track profits over time. Higher rates also make investors less willing to pay higher prices for stocks, which are riskier than bonds, when bonds suddenly pay more interest thanks to the Federal Reserve.

Critics said the stock market in general started the year too expensive for history. Big tech stocks and other pandemic winners were seen as the most expensive, and those stocks were the most punished with higher rates.

Stocks are down about 35% on average when a bear market coincides with a recession, compared to a roughly 24% drop when the economy avoids a recession, according to Ryan Detrick, chief market strategist at LPL Financial.


So I have to sell everything now, right?

If you need the money now or want to lock in losses, yes. Other than that, many advisors suggest that riding through the ups and downs while remembering volatility is the price of acceptance for the stronger returns that stocks have offered in the long run.

While dumping stocks will stop the bleeding, they will also prevent any potential gains. Many of Wall Street’s best days happened either during a bear market or right after the end of one. That includes two separate days in the middle of the 2007-2009 bear market in which the S&P 500 gained nearly 11%, as well as better jumps of more than 9% during and shortly after the 2020 bear market.

Advisers suggest putting money into stocks only if it hasn’t been needed for several years. The S&P 500 came back from all of its previous bear markets to eventually rise to another all-time high. The stock market’s bottom decade following the burst of the internet bubble in 2000 was a notoriously brutal extension, but stocks have often been able to reclaim their highs within a few years.


How Long Does Bear Markets Go And How Deep Does It Die?

On average, it has taken bear markets 13 months to go from peak to trough and 27 months to return to break even since World War II. The S&P 500 fell an average of 33% during the bear markets at the time. The biggest drop since 1945 occurred in the 2007-2009 bear market when the S&P 500 fell 57%.

History shows that the faster an indicator enters a bear market, the less deep it goes. Historically, it took 251 days (8.3 months) for stocks to fall into a bear market. When the S&P 500 fell 20% at a faster rate, the average loss for the index was 28%.

The longest bear market lasted 61 months and ended in March 1942 and reduced the index by 60%.


How do we know when the bear market has ended?

Generally, investors look for gains of 20% from a low point as well as sustained gains over a period of at least six months. It took less than three weeks for stocks to rise 20% from their March 2020 low.


Veiga reported from Los Angeles.


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