Bear market trading: how to get exposure to and trade falling markets
In the world of trading and investing, the financial markets are the stage, and bears and bulls the two primary players. Find out what causes bearish markets and learn more about strategies you can use to trade them.
Start trading today. For account opening enquiries call 1800 601 799 between 9am and 6pm (AEDT) weekdays, or email newaccounts.au@ig.com.
Contact us: 1800 601 799
Start trading today. For account opening enquiries call 1800 601 799 between 9am and 6pm (AEDT) weekdays, or email newaccounts.au@ig.com.
Contact us: 1800 601 799
What's on this page?
- What is a bear market?
- 12 strategies investors and traders use when prices are falling
- Why do people want to trade or invest in bear markets?
- How to start trading in bear markets
- What causes bear markets and how long do they last?
- How often do downward markets occur?
- Bear markets vs economic recession: what's the difference?
- What are the different types of bear markets?
What is a bear market?
A bear market is a term for describing a type of economic climate characterised by markedly declining prices for most asset classes. In other words, markets are trending downward.
When most asset classes’ prices on the market fall by 20% or more, that generally signals the start of a bear run.
The opposite of a bull market, bear markets usually mean conservative and negative investor sentiment in which many opt to withdraw their money to avoid fading yields or cut their losses. This can lead to prices falling even further.
What’s the difference between a bear market and a bull market?
The difference between a bear market and a bull market is that bear runs are on a downward trend, while bull runs trend upwards. They also differ in terms of supply and demand, as well as in traders and investors’ behaviour.
Certain periods of time will be bull markets, during which demand (and risk-taking) is at a high with investors and traders. This drives up market prices and, with it, even more enthusiasm for buying.
Later, markets will contract once again, leading to a bear run. This is due to the cyclical nature of macroeconomics. Typically associated with a receding economy, bearish downturns signify more supply than demand when it comes to investing and trading.
Bear markets are largely pessimistic ones, so profits can be realised from short-selling and selling investments early in the bear market. They can also come from buying at the bottom of a bear market or a buy and hold strategy, where traders and investors simply wait out the bear market and ride the price rally up.
Knowing how to spot the difference between a bear and a bull market is key to trading and investing tactically, because both have very different rules.
It’s important to be able to recognise a true bear market and how to move in it. If a short-term correction during a bull run is confused with a bear market, for instance, the outcome of trades and investments will probably fall far short of what you’re hoping for.
12 strategies investors and traders use when prices are falling
Take a short-selling position
Going short in bearish times is one of the most common bear market strategies among traders. As a trader, you’ll short-sell when you expect a market’s price will fall. If you predict this correctly and the market you’re trading on does decline in value, you’ll make a profit. If the price rises instead, you’ll make a loss.
Shorting can be done via CFD trading with us. You take a position on price movements without taking ownership of the underlying asset. They’re also leveraged, meaning you’ll only need to put up a small initial deposit (called margin) to open a larger position. However, leveraged trades are inherently risky, as both profits and losses are calculated on the total position size, not your margin amount.
Also, short positions can in theory incur unlimited losses if the underlying share appreciates in price instead of falls. This is because there’s no limit to how high a market can rise. This, plus leverage, means having a risk management strategy in place is crucial. Part of this means attaching stops to your positions.
There are many ways to short, depending on which market you want to trade.
Indices – going short on indices is a common way to trade in bearish times, as these track major domestic and global stock markets like the ASX 200, known on our platform as the Australia 200, the S&P 500 and the FTSE 100 and enable you to track the price movements of an entire index in one go.
This means it could be less risky than putting all eggs in one basket by taking a position against one share. Shorting major indices comes with low spreads and is the only way to speculate on the real index price directly. Plus, with us, you can short key indices 24/7, including at the weekend.1
Shares – you might short-sell shares if you think an individual share has further to fall in a downturn. Let’s say you think rising interest rates spell bad news for the technology sector. You might short a tech share that you think is exposed to this downside. If you predict a drop in price correctly, you’ll make a profit off your position.
ETFs – like indices, ETFs give you the opportunity to go short across a number of shares all at once. An ETF’s exposure can span an index or a whole sector or industry. Going back to the tech sector example, ETFs might enable you to spread risk by shorting a tech ETF that tracks multiple shares rather than shorting just one.
If you’re looking to short an index specifically, indices trading might be better for you. That's because the price will be based on the real underlying index price (unlike ETFs) and there are likely to be lower spreads.
Commodities – you can go short on the price of commodities like oil, gold or silver. For example, you may believe supply is going to outstrip demand for soybeans in the near future. So you’d decide to short the price of soybeans. If you’re correct and the commodity’s price falls, you’ll profit.
Pros and cons of going short:
- There’s a potential to make a profit by shorting, as it means you can make money if prices fall
- You can, however, also make a loss. Since there’s no limit to how high asset prices can climb, your potential for loss when going short is also theoretically unlimited
- When you short-sell with us, you’ll use CFDs, which are leveraged. This means you can open a larger position with a smaller amount of capital (called margin) as an initial outlay
- However, leveraged trades mean a greater potential for larger profits and losses, since both are calculated on your position size and not your margin amount
- If you have gone long or opened other positions, going short enables you to hedge in a bearish market
The main cost is the spread, except for shares and ETFs where a commission fee is charged instead. There are no overnight fees for futures but you’ll incur costs on cash, spot and undated positions.
Find an entry position
In any sort of market, finding the right entry position for you – the exact point at which to open your position – can make or break a trade or investment.
This is especially true for bear markets. Opening your position at the exact right moment during a downturn creates opportunities for traders to go short and make a profit if they speculate correctly. For investors, it can also mean purchasing shares or ETFs at lower prices than they might get in a bull run.2
On the other hand, bearish climates are ones when underlying assets’ prices can rapidly fall, sentiment may be negative and volatility often spikes. This means greater risk of bigger losses, fast – but also means potential for profit. Hence an effective risk management strategy, with stops on your positions, is all the more important.
Traders and investors may also use technical analysis to determine the best entry position for them.
Dollar-cost averaging
A strategy some investors use during depressed markets is dollar-cost averaging. This means you’ll schedule a series of small investments over the long term, regardless of the economic climate at any given time, which will smooth and balance out the volatility of a bear market eventually.
During bearish times, you may be tempted to buy more of a share you’re interested in, given its lower price thanks to the market. However, this can be risky too. It requires perfect timing of the market in order to truly be profitable and has a high probability of ending in loss if you haven’t timed correctly.
With dollar-cost averaging, you’d continue investing the same amount consistently over the long term. This removes emotion from the equation, because you’ll be investing no matter what state the market’s in.
You’ll also likely capture the average return of the market, because you’ll be buying regularly – when prices are high, low and everything in between. This means that, over time, you could end up with a larger investment position than if you only bought into the market once or twice a year. This strategy is generally more favourable for a long term investment horizon, and may not be suitable for you.
Trade the VIX
A useful index to keep an eye on during downturns is the VIX (volatility index).3 Because the VIX charts volatility in the market, it’s a good indicator for trader and investor sentiment. When bear markets cause panic, pessimism and sudden sell-offs, the VIX is often one of the first gauges to predict it.
While some investors and traders watch the VIX only, others will actively take a position on it. The VIX often exhibits a negative correlation between it and other indices and shares – meaning that when other assets’ prices are going down, the VIX is likely to go up.
This means the VIX is a popular choice among traders and investors for diversification and hedging one’s market exposure – two very effective strategies for bear markets.
Trade indices and ETFs
The VIX is only one avenue traders use during a bear run. You can also trade many other indices and ETFs, which is a popular strategy when markets are trending downward. That’s because both give you broad exposure to a whole group of shares all at once, enabling you to speculate on them directly.
For example, you can trade directly on indices like the ASX 200 to gain exposure to all 200 of the top companies in Australia with one position.
ETFs encompass an entire basket of shares, often representing an entire industry or sector as a whole. They also fall into the category of ‘thematic investing’ – for example, you can trade lithium and battery technology shares on the whole as a theme.
Additionally, you also get short exchange traded funds, also known as inverse ETFs, which are designed to profit when the underlying benchmark declines. These are similar to shorting a security, except instead of borrowing an asset to sell, you're buying the market. So, inverse ETFs enable investors to profit in a downward market, without having to short-sell anything. But before you invest in an ETF, it is important to consider the relevant TMD available from the ETF issuer to determine whether the ETF is consistent with your objectives, financial situation and needs.
Both indices and ETFs are ways to diversify your portfolio during a bear market. Generally, the more diverse types of assets you have or trade during a bearish time, the more they’ll help you manage risk by hedging your exposure to any one market.
Diversify your holdings
This brings us to an often underestimated, but very well-known strategy to remember during bear markets – diversity is your friend.
Both investors and traders can diversify by keeping open various positions of completely different asset classes. If your portfolio is made up of asset classes that behave differently to one another and do well (or poorly) in opposing market conditions, you’ll always have something performing well, softening the risk of other underlying assets underperforming.
For example, the S&P 500, known as the US 500 on our platform, may go down during a bear market, but some of the companies within the index may not. So, instead of only trading on the S&P itself, you could target specific high-paying dividend shares. Or, you could even trade on bonds where prices often move in the opposite direction of share prices.
The more diffused your risk is during unpredictable times – like bear markets – the better you’ll be able to weather the storm, most of the time.
Focus on the long-term
Like bears themselves, one of the strategies to employ during downturns is to hunker down and wait out the winter.
This is because of the cyclical nature of markets. While bearish periods are difficult to endure, history shows you probably won’t have to wait too long for the market to recover. Bear markets are followed by bullish rallies – always – and often upswings occur sooner rather than later.
The 2019 to 2021 market was a good example of this. Before the Covid-19 pandemic downturn, we’d experienced the longest bull run in history, spanning nearly 11 years.
Trade 'safe-haven' assets
It makes sense to look for a harbour of refuge in stormy economic climes. For many traders, that’s 'safe-haven' assets.
These are markets that tend to retain or increase in value during volatile times when many asset classes do poorly. This is often because they’re negatively correlated with the economy.
The most shining (and famous) example of a safe-haven asset is gold, but there are others too. These include government bonds, the US dollar, the Japanese yen and the Swiss franc.
However, it’s important to remember that, just because an asset is traditionally considered a 'safe-haven', doesn’t guarantee it’ll be one in every bearish market.
Trade currencies
As you can see from the 'safe-haven' list above, there are some currencies that are known for doing well when markets are declining.
To try to profit from this, you could take a position on the price of a declining economy by opting to short a currency. For example, you’d sell GBP/USD, if you thought the value of the pound would fall in comparison to the dollar.
A word of caution here, though – forex markets are famously volatile in tough times. During market downturns, it’s a good idea to understand the relationship between exchange rates and share prices as much as possible to take advantage of any declining prices. However, there isn’t necessarily a clear-cut relationship, making it vital to perform thorough fundamental and technical analysis before opening a position.
Choose high-yielding dividend shares
If you’re an investor, finding dividend shares that are known for generous payouts can be a great way to get a passive income during a declining market. The great thing about high dividend payers is that they’ve got a reputation to uphold.
While the company’s share price might take a hit, they’ll still likely pay higher dividends than most other businesses in order to retain and attract investors.
The trick here is ensuring you’re buying shares in dividend shares that are sustainable. Once you’ve identified dividend shares, you can either invest with our share trading service2 or speculate on the company’s share price by opening a CFD trading account.
Trade options
Buying options contracts, commonly known as options, gives you the right – but not the obligation – to buy or sell an underlying asset at a specific price by a set point of expiry. This means that you can choose not to exercise this right if you want.
Two common options strategies for hard times are:
- Buying put options
- Writing covered calls
When you buy a put option on a share, you’d do so believing that the company’s share price will not rise in value. If the share price falls – or even stays the same – you’ll make a profit. This is different to going short with normal derivative trading such as CFDs, where you’ll only make a profit if the share price drops.
This can be less risky than traditional short-selling because you can just let an option expire at no additional cost to you, should markets suddenly turn more optimistic. You will however need to pay the premium to buy the option.
Writing covered calls is more of a hedging strategy – you’re selling a call option against a share that you already own. This involves accepting the obligation to sell that share to the holder of a call option. If the buyer chooses to exercise the option, you’ll sell that share, at that specified price.
This can be useful in a bear market if you were planning to sell your shares anyway, as a way to earn some profit from the sale.
Buy at the bottom
In markets, timing is everything. While largely pessimistic in nature, a significant upside to bear markets is that some truly great bargain buys can be found in shares.
As the saying goes: ‘a rising tide lifts all boats’, and the converse is also true. In downturns, share prices will decline across the board. This means investors may purchase shares in stellar companies they might not have been able to afford during a bull run. And while almost all shares’ value will drop during bearish times, the good ones will likely recover.
This makes ‘buying at the bottom’ – successfully predicting as close as possible to the nadir of a good share during a bear market and buying it at its cheapest before it rebounds – a solid strategy.
Here, again, research is crucial, so it’s a good idea to use fundamental and technical analysis to identify shares that have a positive outlook. You should always look at the company’s balance sheet, valuation, management strategy and debt levels.
Why do people want to trade or invest in bear markets?
Traders and investors want to open positions during a bear market because:
- Bear markets can mean opportunities to buy quality shares and other assets for lower amounts than you’d be able to otherwise
- Some markets, such as bonds, defensive shares and certain commodities like gold often perform well in bearish downturns
- If you have the risk appetite for it, bear markets may also be an opportunity to short-sell if you are trading, and make a profit if you predict correctly when prices will fall (or make a loss if they don’t)
- If you’re an investor, bear markets can still bring valuable lessons, such as learning to not make any sudden movements based on emotion and instead hold on to long-term positions, even when they underperform in the short-term
How to start trading in bear markets
- Research your preferred market
- Decide whether you want to trade or invest2
- Create a live account or practise on a demo
- Take steps to manage your risk
- Open and monitor your first position
How to manage existing investments in downward markets
For investors, at the start of a market crash, bear market, or even a more temporary downturn, it is important to not panic and follow the herd. While these downward price movements do have adverse impacts on portfolios, the extent to which you are at risk will completely depend on your goals.
For buy-and-hold investors, there isn’t necessarily a need to fear a market downturn because you’re interested in the long-term trajectory of the stock market. Bear markets do tend to be significantly shorter than bull markets, which is why the stock market has – overall – increased in price.
For example, between 1984 and 2019 the FTSE 100's average annualised total returns were 7.75%, even though there were bear markets within that period where the price of the index fell - for example a 31% drop in 2008.
Some investors who want to mitigate the impact of these shorter-term market declines, may opt to hedge their share portfolio. However, this strategy is dependent on risk appetite and available capital, as it involves opening multiple positions.
What causes bear markets and how long do they last?
The different types of bear markets (which we’ll discuss later) are caused by various things. These include macroeconomic events like a recession and normal downturns in the business cycle.
As such, there are no hard and fast rules as to how long a bear market will last. The best way for investors to determine this is on a case-by-case basis, watching each bear market for signs that it will continue or that an upswing will occur.
*Please note: this is a pictorial representation of bear and bull markets and is used for illustration purposes, not an accurate representation of the US Tech 100 index.
How to identify bear markets
There are a few signs that herald bearish times. These include:
- Economies decline – when the economy contracts, it’s usually a sign that the stock market will take a downturn too. This can even lead to a recession
- Market rallies fail – uptrends that don’t gain any momentum and fizzle out are the most common sign that a bear market is nigh, because it means that the bulls are losing control of the market
- Interest rates rise – this usually means consumers and businesses will cut spending, causing earnings to decline and share prices to drop
- Defensive shares outperform – if consumer staples companies start to enjoy significant gains, it often signifies that a period of economic growth is over, as people are purchasing fewer luxury or unnecessary items
How often do downward markets occur?
As we’ve discussed, a depressed market can be caused by different things. This means it’s hard to know when and how frequently they’ll hit.
Plus, not all downward markets are created equal. Retracements and pullbacks can happen multiple times a day during volatile times, while larger downturns like corrections, bear markets and recessions happen less frequently. For example, analysts tend to expect one market correction every two years.
One thing that can be predicted is that upswings and their correlated downturns are often in proportion to one another. So, bigger swings in market momentum like bear runs tend to happen less, but last for longer and have a greater fallout. For example, the most recent bear markets of note were caused by the Covid-19 pandemic and the 2008 global financial crisis. Both lasted hundreds of days.
However, it’s just as important to remember that markets are cyclical and upswings, or periods of bullishness, almost always last longer and happen more often than bearish downturns. In between the Covid-19 and 2008 bear runs, for example, was a bullish period so long that it almost spanned 11 years.
Bear markets vs economic recession: what’s the difference?
Bear markets are closely associated with economic recessions, but they are not the same thing.
A bear run is a period of continuing decline in the prices of the market, but how much of a decline and for how long is imprecise. It simply means a significant downturn.
Recessions, on the other hand, are far more specific. They are times with negative growth or at least 2% reduction in the gross domestic product (GDP). They usually need to last for at least two consecutive quarters for analysts to declare a recession.
While they are not the same thing, bear markets and recessions often have the same causes and effects, such as negative investor sentiment, geopolitical crises, uncertainty and reduced consumer spending.
What are the different types of bear markets?
Analysts and market experts differentiate between bear markets based on what caused the downturn. There are three different types of bears:
- Event-driven: when macroeconomic headwinds cause a downward spiral in markets’ prices
- Cyclical: when the market automatically corrects itself after a time of bullishness at the end of a business cycle, usually set off by climbing inflation and interest rates
- Structural: when a financial bubble or some other kind of economic imbalance collapses, the resulting instability causes bear markets. For example, the misplaced internet-related over-optimism in the market during the 1990s caused what was known as the ‘dotcom bubble’
FAQs
Is a bear market good for trading or investing?
A bear market is neither good for investing and trading, nor bad for it – it’s simply a part of the business cycle. This means some markets will underperform during a bear market, while others will outperform.
Just like during any other market, doing research and technical and fundamental analysis will determine what trading or investing strategy is best for you during a bear run.
What’s the difference between a bear market and a market correction?
A bear market is a period of significantly depressed or falling prices for most asset classes and can be caused by multiple things, such as economic crises.
A correction is limited to that specific asset, and is usually far shorter-term. It’s the market changing momentum to decline slightly after a period of significant optimism in order to balance or ‘correct’ itself.
How can I tell if a bear market is coming?
Watch for signs like market upswings failing to gather momentum, economies contracting, sudden uptrends in defensive shares like consumer staples and rising inflation and interest rates.
How can you profit from a bear market?
No one can guarantee you a profit, or a loss, from any market. But you can maximise your chances of a profit in a bear market by following bearish-friendly strategies. These include diversifying your holdings, focusing on the long-term, taking a short-selling position, trading or investing in 'safe haven' assets and buying at the bottom.
Can you lose money during a bear market?
You can lose money in any market. With the volatility, pessimism and uncertainty that tend to come with bear markets, it’s an especially important time to ensure you’ve got an adequate risk management strategy in place. This is especially true if you use short-selling as a bear market strategy.
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2 When investing with us, you’ll do so via our share trading platform using our custodial model. This means that we manage, hold and safeguard securities you choose to buy and sell on your behalf. Via our custodial model, you’ll be able to buy and have a stake in actual assets – for example, shares in an ASX 200-tracking ETF or ASX 200-constituent company. You’ll also be entitled to dividends if any are paid, and granted voting rights if applicable.
3 We price our Volatility Index (VIX) contracts in a different way to the rest of our cash index markets. Rather than aiming to replicate the underlying index price, we follow the method used to derive our undated commodity prices. This means that there is a difference between our undated price and the underlying index price on these markets. Funding is also calculated in line with the undated commodity method. Please see our overnight funding page for more details.
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