What NOT to do in a bear market

Bear Market

Oct 17, 2022

If you own a unit trust or a mutual fund that invests directly in the bond or stock market, chances are – the value of your investment is down relative to last year. The performance of pooled funds is heavily influenced by the movement in the prices of the assets it holds. As asset prices rise, the return of the fund is boosted. As asset prices decline, the return of the fund is reduced or declines. 

Most asset classes (stocks and bonds) have recorded declines in the first 9.5 months of 2022.  This is primarily a result of high inflation and aggressive monetary and fiscal policy tightening across developed and emerging market economies. The following major markets have all recorded negative performance YTD in 2022:

  • S&P 500: (24.95)%
  • Dow Jones: (19.61)%
  • S. Corporate Bond High Yield Index[1]: (14.3)%
  • S. Investment Grade Bond Index[2]: (20.91)%
  • Gold: (8.48)%
  • JSE Index: (9.4)%

It’s not surprising then, that the return on many pooled funds (which buy assets that are part of these indices) is also negative. It can be very distressing if any or most of the investments in your portfolio are recording a negative return. What do you do if your pooled fund investment has declined in value? Do you sell, do you hold, or do you buy (and if you are buying, what do you buy?). Here is a look at how to manage through a bear market. 

Check that there is nothing intrinsically wrong with the underlying assets. Compare the decline in price of your mutual fund/unit trust to the decline in the index that most closely tracks its asset portfolio. Is it similar, greater, or less? Are the companies in the portfolio still in decent financial and strategic standing? If the companies are still able to carry-on business successfully and are not at risk of default, holding is a wise course of action.

A decline in price does not equate to a realized loss: In the case of a bond portfolio, it is always earning interest, no matter what is happening to the bond prices. Even when prices fall, bonds (of performing companies) will continue to pay interest and repay their principal at maturity. This applies to bonds issued by companies that are generating enough cash flow to pay their debt. It does not make sense to sell the bonds of these companies, just because the price is down.

 

Price volatility is a feature of most investments: Even U.S. Government Bonds (often treated as the benchmark of safety in the financial markets) display price volatility. Holding through periods of price volatility is the best way to avoid losses on your investments. Investments with minimal price volatility have lower returns and less scope for growth.

Returns vary from year to year, even though you may buy into a fund or unit trust because of the long run average return. It is likely that in some years the fund generates positive returns, and, in some years, it generates negative returns. The longer you are invested in the fund, the higher the probability that you will achieve the average return. Do not let short term declines distract you from long term gains.

Price declines provide buying opportunities: It is worth noting that some mutual funds have had their best performances following periods of crisis. This occurs because market declines can provide an opportunity for the Fund to purchase assets at lower prices and better yields. If you sell at the bottom, you eliminate any chance of benefitting from the recovery.

This article assumes that the declines experienced are a result of the broader macro-economic environment. It EXCLUDES instances of firm or industry-specific headwinds that may result in a deterioration in the credit quality of an issuer.

Marian Ross is Vice President, Trading & Investment at Sterling Asset Management. Sterling provides financial advice and instruments in U.S. dollars and other hard currencies to the corporate, individual and institutional investor. Visit our website at www.sterling.com.jm

Feedback: If you wish to have Sterling address your investment questions in upcoming articles, e-mail us at: [email protected]

[1] LF98TRUU

[2] *LEGATRUU

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