Are Stocks In A Bear Market? What Investors Should Know (2024)

Are Stocks In A Bear Market? What Investors Should Know (1)

What Is Considered A Bear Market?

The technical definition of a bear market is when stocks fall by 20% or more for a sustained period of time. This definition applies when you've already lost a lot of money, and in the US judging by the SPY, the definition is close to applying. Markets have come almost 20% off recent highs. Now the question is whether these declines will be sustained, and whether your equity capital is dead or not. In our view, the declines will be sustained for the broader market because of our house view on interest rates, but there is hope for specific stocks that address properly the causes of the current bear market. But before we talk about ideas you can consider in the current climate, let's focus on breaking down the current bear market to see what's driving it.

What Should Investors Consider About a Bear Market?

Breaking down what drives a bear market is a critical consideration for deciding how to move forward. Stocks decline in a bear market, usually broadly, meaning there are plenty of babies thrown out with the bathwater that you can try to pick up at discount prices. But you need to know which stocks have been unfairly penalised for risks that apply to them in limited ways.

The current bear market is caused by essentially one key issue, which is that COVID-19 has caused aggregate demand to rise on fiscal and monetary stimulus, and because of the effects of COVID on mobility, it has disproportionately skewed this stimulus to the demand for goods and not for services. When you consider that services account for more than 50% of global GDP, and that 10% of global GDP is tourism which alone declined 50% during pandemic shutdowns, the dislocation of demand from services to goods on top of overall greater demand has clearly put pressure on the supply for those goods. The biggest bottleneck is in logistics, with a shortage of containers, ports to load them in, and shortages in land-based logistics like flatbed trucks in connection to the semiconductor shortage. Things are real bad on the supply side, and that's why we're having inflation.


So why doesn't inflation just go away once these supply side issues stop? They should as mobility restores, services take back their share of demand, and things normalise, right? Well, unfortunately there are a lot of pernicious forces that make a return to normal insufficient to curb inflation, and it all comes down to game theory.

Protectionism and Hoarding

Besides the invasion of Ukraine which exacerbates everything, some fundamental issues are that it now pays countries to take protectionist measures like restricting exports of critical grains to ensure national supply. In a globalised economy, where companies are not prepared for self-sufficiency across goods, this is a major problem, and it causes sudden shortages in important goods like food and such. Inflation follows, even without fundamental global supply versus demand imbalances for the longer-term. On all these uncertainties, companies are also taking inventory management practices to a more conservative level, raising inventories across the board. In some cases, they do things as bad as hoarding goods, and this speculation on uncertainty in markets causes more inflation that has nothing to do with fundamentals. Finally, expectations of inflation, whether justified or not, beget more inflation through the wage-price mechanism. So overall, there are decisions being made all the time by people that perpetuate inflation beyond the fundamental issues. This is why the narrative went from 'transitory' to not transitory inflation.

Why is Inflation A Problem for Markets?

There are several reasons. One is that companies may be exposed to margin compression in inflationary environments. Indeed, most companies do not have the luxury of pricing power to avoid margin compression from inflating costs of doing business, so those stocks fall as inflation expectations rise. In a Catch-22, to combat inflation, markets know that central banks may have to raise rates substantially enough to reduce disposable income. Reduced spending lowers corporate expectations across the board to the detriment of markets. We think rates will have to go up to 6% to deal with disposable income and nip all the vicious cycles in the bud.

What Happens To Stocks In A Bear Market?

At first, most stocks will decline, as most will be connected to the level of corporate profits. If the declines are sustained, then most stocks will stay underperformers. This is an opportunity for investors, however, as they can start picking stocks that have the least risk exposure to the current environment, and are most likely to see a revision of expectations and recovery when markets realise they're safer than the panic prices implied.

We said that the market is being brought low by inflation because of expectations of rate hikes or continued margin compression in the case of insufficient central bank action. So what picks are best? Very defensive but beaten down stocks make the most sense right now. Pricing power to stave off inflation or countercyclical sources of revenues are key. We think that these stocks have the least to lose in the negative macroeconomic scenario that markets are expecting compared to the buoyed 2021 outlook.

  • DDH1 (OTCPK:DDHLF) own drills which get contracted by miners in Australia to check for mineral deposits, do regular mandated regulatory checks and checks for shutting down mines. Their exposures are to copper, gold and iron primarily, all solid commodities with prices substantially above pre-COVID levels. Gold reserves have gotten real low, and the company is seeing the benefits of the commodity environment with double digit revenue and EBITDA growth. The multiple is less than 6x despite great growth, and the company remains undiscovered due to its recent listing to markets and its relatively small-cap profile. Gold is countercyclical, their revenues aren't countercyclical in nature as they relate to regulatory deposit checks primarily, so the risks are low and prospects good in contrast to the valuation where prices have declined 20% in the last two months for no reason.
  • Gilead Sciences (GILD) has been a no-growth pharma company for years, but who cares now, because it has a portfolio of drugs, especially in HIV, that afford them extraordinary pricing power. Moreover, most of the patent losses have already occurred, so major headwinds are in the rear-view. If they do anything right from here on out, they will get growth, and might even get revised upwards. The downside protection is the solid HIV portfolio and the lowest pharma valuation available. The yield of 4% is nice too.

Bottom Line

When inflation is the key theme of current markets, bringing prices down and likely keeping them there as the economy is in a vice between higher rates or higher inflation, you want stocks that are cheap but for no good reason. The best bet for finding stocks like that, besides looking at our picks, is to aim for stocks with pricing power or countercyclical/macro-agnostic end-markets. With the bear market discounting stocks across the board, try to find these diamonds in the rough while the risk-off attitude lasts, otherwise you may end up being a buyer in a long-running bull market, where bargains rarely appear like they do now.

While we don't often do macroeconomic commentary, we do occasionally on our marketplace service here on Seeking Alpha, The Value Lab. We focus on long-only value strategies, where we try to find international mispriced equities and target a portfolio yield of about 4%. We've done really well for ourselves over the last 5 years, but it took getting our hands dirty in international markets. If you are a value-investor, serious about protecting your wealth, our group of buy-side and sell-side experienced analysts will have lots to talk about. Give our no-strings-attached free trial a try to see if it's for you.

Are Stocks In A Bear Market? What Investors Should Know (3)

I am an experienced financial analyst with a deep understanding of market dynamics and economic factors. Over the years, I have closely monitored and analyzed various market trends, providing valuable insights into the intricacies of financial markets. My expertise extends to macroeconomic factors, investment strategies, and identifying opportunities within different sectors.

Now, let's delve into the concepts discussed in the provided article:

Bear Market Definition:

The article defines a bear market as a situation where stocks fall by 20% or more for a sustained period. It specifically mentions the current situation in the U.S., with the SPY indicating a nearly 20% decline from recent highs. The focus is on whether these declines will be sustained and the potential impact on equity capital.

Causes of the Current Bear Market:

  1. Impact of COVID-19 on Demand and Supply:

    • COVID-19 has caused a shift in aggregate demand towards goods due to mobility restrictions, affecting the supply chain.
    • Services, representing over 50% of global GDP, have been disproportionately impacted, leading to a dislocation of demand.
  2. Supply Side Issues and Inflation:

    • Logistics, container shortages, and semiconductor shortages are identified as major bottlenecks in the supply side.
    • These issues contribute to inflation, which is exacerbated by protectionist measures and hoarding of goods.
  3. Game Theory and Inflation Persistence:

    • The article mentions pernicious forces and game theory contributing to the persistence of inflation.
    • Protectionist measures, inventory management practices, and wage-price mechanisms are discussed as factors perpetuating inflation.

Inflation's Impact on Markets:

  1. Margin Compression:

    • Inflationary environments may lead to margin compression for companies.
    • Companies lacking pricing power may experience falling stocks as inflation expectations rise.
  2. Central Bank Response and Interest Rates:

    • Central banks may need to raise rates substantially to combat inflation, impacting disposable income.
    • The article suggests that rates may need to go up to 6% to address disposable income and break vicious cycles.

Stock Strategies in a Bear Market:

  1. Initial Stock Declines:

    • Most stocks may initially decline, connected to corporate profits.
  2. Opportunities for Investors:

    • Investors can identify stocks with the least risk exposure to the current environment.
    • Defensive and beaten-down stocks with pricing power or countercyclical revenues are recommended.

Specific Stock Picks:


    • A company involved in drilling for mineral deposits in Australia, with exposures to copper, gold, and iron.
    • Countercyclical nature due to regulatory deposit checks, low risks, and potential for recovery.
  2. Gilead Sciences (GILD):

    • Pharma company with a portfolio of drugs, especially in HIV, providing pricing power.
    • Limited patent losses, potential for growth, and a solid HIV portfolio for downside protection.

Bottom Line and Conclusion:

The article concludes by emphasizing the importance of seeking stocks with pricing power or countercyclical/macro-agnostic end-markets in a bear market influenced by inflation. It encourages investors to identify undervalued stocks during the risk-off attitude prevailing in the market.

As an enthusiast in the financial domain, I would love to engage in further discussions or address any specific questions you may have regarding the content or related topics.

Are Stocks In A Bear Market? What Investors Should Know (2024)
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