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Be Patient, but Be Ready for the Bear To Die
October 25, 2022
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2 min read
Investors need patience and courage to face down a dying bear. Here’s why.
The bear market has likely begun the process of finding a trough, but be aware that a major policy misstep could extend the decline. In coming months as market volatility crests, panicky investors will probably lose heart and sell, just when they should be thinking about buying stocks.
For courageous individuals who hold on, the S&P 500’s nearly 25% decline from its January peak boosts the prospects of higher longer-term returns. For example, large-cap domestic stocks are closer to reasonable values than they have been in years, and some global equity sectors are downright cheap.
Market behavior during this troughing process is often difficult to stomach. Not only are stocks already down roughly 25% or more, but the day-to-day volatility will probably rise, and losses may accelerate as the bear market churns to an end. Simultaneously, headlines and pundits will shout about further downside, endless inflation or imminent recession, and the inability of the economy to recover. Such periods are psychologically difficult, but they often bring the best buying opportunities for investors with courage and perspective.
Historically, the troughing process takes place over two or three quarters. During this period, two things happen that help the market find a floor.
- First, stock fundamentals decline below a “normalized,” or trend level, and companies cut costs to run lean through the tough times. This process creates “operating leverage” in profits so that a resumption of economic growth sets the stage for a cyclical recovery in profits.
- Second, restrictive policy becomes supportive of the profit recovery.
Each bear market is a bit different, and while the focus is currently on monetary policy, investors should recognize that government fiscal policy can be significant in turning the market tide (as it was in 2009 and 2020). Both of these things—a lower earnings reset and a shift in policy—have yet to occur, but the likelihood of these things happening in the next two or three quarters has risen dramatically.
Investors with long-term perspectives should be ready. Opportunities are coming. They should identify sources of dry powder, including cash, that could be applied to equity markets as the troughing process unfolds. Applying dry powder, a de facto portfolio rebalancing, is an important means of enhancing long-term returns.
AMG does not try to time market peaks or troughs. Instead, it evaluates the conditions for improved returns relative to risks, and that analysis indicates that in coming quarters the trough will be found. For now, hold on to that dry powder but talk to your AMG advisor frequently about when to reload.
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AMG’s opinions are subject to change without notice, and this report may not be updated to reflect changes in opinion. Forecasts, estimates, and certain other information contained herein are based on proprietary research and should not be considered investment advice or a recommendation to buy, sell or hold any particular security, strategy, or investment product.
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