Should You ‘Buy the Dip’ During a Bear Market — Or Wait It Out?
When stock markets move into bear territory, which they did this week in the United States, it’s tempting to jump into the market and scoop up stocks at deflated prices and then wait for them to rise again. The strategy, called “buying the dip,” can pay off — as long as you choose the right stocks.
Pick the wrong ones, though, and the dip you thought you bought will turn into a deep trough that you never recover from.
Under a normal market environment, buying the dip is almost always a short-term strategy based on market timing, The Motley Fool reported. However, in the case of a bear market it’s a little different. Since the entire stock market is down over an extended period of time, you’ll likely need to wait until the market recovers and heads back into bull territory.
Don’t Get Bullish Just Yet
The typical bear market lasts anywhere from 9.5 months to 13 months, depending on the formula used to calculate it. The uncertainty of how long a bear market might last makes buying the dip a risky strategy. According to at least one estimate, the longest bear market in U.S. history lasted more than five years.
There’s no way of knowing how long the current bear market might last — which means buying the dip in today’s struggling market could be very risky if you don’t choose stocks wisely.
As Fortune reported, Morgan Stanley strategists led by Michael J. Wilson wrote this week that they expect the S&P 500 to fall to 3,400 by the end of the summer — or another 7% from where the index closed on Thursday — amid a slowdown in earnings growth and consumer spending.
“Given the risks to growth are just emerging, it’s too early to get bullish,” the strategists wrote.
That view is shared by others on Wall Street who point to historically high inflation and the potential for a recession.
“It is unlikely that we have seen ‘THE’ bottom in stocks until we get some more capitulation,” Bob Doll, CIO at Crossmark Global Investments, told Fortune in an email.
Take a Gradual Approach
You should also be wary of assuming that a bear market will have a “trampoline effect” in which stocks fall hard and then bounce back to previous or higher levels, advises Marta Norton, chief investment officer for the Americas at Morningstar Investment Management. It’s better to take a gradual approach.
“When we start to get interested in a market selloff, we don’t take everything that we could put in the market and do it right away,” Norton wrote in a column. “We do this in a much more dollar-cost-averaging way, where we adjust and put together a buying plan.”
Although many experts advise against making any big moves during a bear market, there’s nothing wrong with buying the dip as long as you focus on quality companies with strong balance sheets, healthy debt and steady sales and earnings growth.
Focus on Long-Term Gains
Wedbush Securities said on its website that you should still invest with a long-term focus, just like in a bull market. It noted that bear markets — especially those fueled by economic downturns and/or interest rate-hikes — will often expose weaknesses in companies.
“Quality companies built for the long-term with strong business models and healthy balance sheets stand a better chance of weathering the bear market environment than a company whose business fundamentals are weak,” Wedbush noted.
It recommends building positions in depressed stocks gradually. If the price declines further after your initial investment, you can buy additional shares at a lower price. If the price rises, you’re probably still purchasing shares at a historically low price.
Bears Usually Turn into Bulls
Advisors also suggest putting money into stocks only if the money won’t be needed for several years. One thing to keep in mind is that the S&P 500 has come back from every one of its previous bear markets to eventually hit another all-time high, NBC4 reported. This is where buying the dip during bear markets can really pay off.
“An investor that starts off methodically putting money into a 401(k) is going to have a bigger balance 20 or 30 years from now if earlier on during their investing career they were able to take advantage of bear markets versus having to buy at all-time highs all the time,” Matt Stucky, senior portfolio manager at Northwestern Mutual Wealth Management, said in an interview with CNBC.
More From GOBankingRates