Tackle a Bear Market with Mutual Funds

When the markets begin to slide into a bear market, most investors sell their investments hastily, resulting in a negative investing experience. However, a bear market is an excellent opportunity to invest in equity mutual funds. This article will discuss what a bear market is, how it varies from a market correction, and how to deal with it.

Since November 2021, the global markets have been in a bear market with just a few economies such as India being able to rebound amid solid economic data and reducing inflation. In fact, in 2022, the Indian markets have outpaced major global markets. Indian markets concluded 2022 with a positive 4 per cent return in contrast to numerous worldwide markets that saw single-digit and double-digit negative returns. Is it correct, however, to suggest that the Indian markets are impervious to a bear market? That is not entirely correct.

The Indian market saw a large bear run in 1992 during the Harshad Mehta scam, then again in 2008 during the global financial crisis, then again in 2015, 2016, and ultimately in 2020 owing to the pandemic. As a result, the Indian markets have had their fair share of a bear market. In this article, we will look at mutual fund strategies and tips that might help you deal with a bear market. However, before we proceed, it is critical to grasp what a bear market is and the phases of a bear market.

Defining a Bear Market

A bear market is characterised as a long period in which stock markets fall by 20 per cent or more. When a downturn lasts more than two months, it is regarded to be the start of a bear market. A bear market is defined by negative returns. The market mood is gloomy, which leads to additional stock sell-offs, further weighing down the market. Stock market declines can be caused by a variety of events, including panic selling by investors in response to an economic crisis such as an unforeseen catastrophic occurrence, a financial crisis in one sector, a market correction, and a drop in company earnings.

Bear Market versus Market Correction

A market correction is sometimes used wrongly as a synonym for a bear market. The primary distinction between a bear market and a market correction is the magnitude and length of price decrease. A market correction, as opposed to a bear market, is a drop of at least 10 per cent but less than 20 per cent from a recent peak that might linger for weeks.

Phases of a Bear Market

Bear markets are often distinguished by four different phases:

Recognition — High pricing and strong (positive) investor sentiment are indications of recognition. During this stage, investors are prone to mistaking the start of a bear market for normal day-to-day swings. At the end of this period, some investors may identify the coming bear market and begin selling their holdings.

Panic — Panic causes significant price drops, and investors capitulate. Trading volume tends to fall, economic indicators may begin to signal a weakening economy and investor sentiment falls precipitously

Stabilisation — Stabilisation occurs when panic selling begins to subside and investors begin to absorb the cause for the price decrease. The stabilisation stage is the most dynamic and chaotic of the stages, and it generally lasts the longest. Rallies may occur, but they tend to revert as market speculators arrive. 

Anticipation — Prices begin to level out and find a bottom in anticipation. Low valuations and favourable news begin to entice more investors to buy equities. 

Riding Bear Market with Mutual Funds

There are several strategies for reducing financial risks and increasing investment returns. Here are some measures investors may take to protect themselves against the risks posed by a bear market: 

Review your Mutual Funds Portfolio — Investors who are concerned about prospective losses prefer to sell their mutual funds when the markets are down. During a market downturn, this is the worst move you can make. Not only are your profits lowered, but you also miss out on some investing possibilities. When the markets fall, not all sectors fall at the same time. Certain sectors have a tendency to grow. For instance, the IT and pharmaceutical sectors often rise when the market declines in lockstep with the rupee. This is due to the fact that such businesses have profits in foreign currency, which rise when the rupee declines. The FMCG industry also moves less erratically than the general markets and usually increases amid market volatility. As a result, these sectors are known as ‘defensive sectors’. An investor can purchase units of mutual funds that invest especially in these sectors. 

Invest in Large-Cap Funds — According to the Securities and Exchange Board of India (SEBI), large-cap funds are those that invest at least 80 per cent of their assets in large-cap businesses. Large-cap stocks are those ranked from 1-100 in market capitalisation, according to SEBI. They are less vulnerable to market swings and safeguard investment returns during downturns. Large-cap stocks are well-versed in dealing with severe market circumstances due to solid profits and competent and experienced management. During a downturn, you can shift your investment, if any, from Small-Cap and Mid-Cap funds to large-cap funds to protect your investment against further decline. 

Switch to Debt Funds — Falling markets have little to no effect on debt fund performance. In fact, if the bear market coincides with a fall in key policy rates from the Reserve Bank of India (RBI), then investing in longer-term funds makes sense. Because bond prices are inversely proportionate to interest rates, when interest rates fall, bond prices rise, benefiting funds with longer modified duration. Thus, shifting from equity to debt funds can significantly minimise the risk associated with bearish markets. 

Invest via SIP — Mutual fund investing via systematic investment plan (SIP) incorporates a built-in risk reduction mechanism. When you invest through SIP, you invest a specified amount of money at predetermined regular intervals. As a result, when the fund’s net asset value (NAV) falls during a bear market, you automatically acquire additional units of that mutual fund. During bear markets, an investor gets more and more units of a mutual fund via SIP.

Conclusion

Riding a storm requires fortitude and the bear market may be challenging for both novice and seasoned investors. The ideal way to deal with a bear market would depend on an investor’s time horizon, investment goals and risk tolerance. In the long term, equities have easily outperformed other asset types such as gold, debt and cash. However, equities are subject to volatility and bear markets on occasion. So, use optimal asset allocation and rebalance your portfolio on a regular basis. If you follow these basic actions and tactics, you will most certainly be considerably more satisfied. You will have more wealth than most people who make unplanned and sloppy financial decisions. While most people fear the bear markets, this might be the perfect time to expand your equity mutual funds portfolio and lay the basis for long-term success. 

"Bull markets are great, but they breed complacency. Bear markets can be energizing. Instead of fretting over the decline in your net worth, think opportunistically about all those bargains and the potential gains when, inevitably, a bull market returns."

- James Stewart