Market Trends: Identifying and Understanding Them
Investors analyze market trends to determine the likelihood of a financial asset’s price to rise, fall or remain flat over time. But what exactly is a market trend?
A market trend is a tendency for an asset’s value to move in one direction or another over a period of time. Market trends can be short-, mid- or long-term.
What Are the Types of Market Trends?
There are several kinds of market trends, which you can typically characterize by how long they last and how much impact they have on the market. Here are the three main categories of types.
The Two Types of Primary Markets: Bull vs. Bear
There are two types of markets: bull markets and bear markets. In a bull market, stocks are generally on the rise, although there will be short periods in bull markets when stock prices fall. A bull market is usually characterized by an increase of 20% in major indices like the Dow Jones Industrial Average and the S&P 500. A bull market is usually accompanied by other positive economic metrics, such as low unemployment and positive consumer sentiment.
A bear market is the opposite of a bull market. It’s when stocks are on the decline, despite the occasional upward correction. Bear markets are often accompanied by negative economic conditions like high unemployment or inflation. Most people see a bear market as a bad thing, but savvy investors view it as a buying opportunity.
A bull market is always followed by a bear market. Generally, bear markets are much shorter in duration than bull markets, with the average bear market lasting 289 days and the average bull market lasting 3.8 years. The market will always alternate between bull and bear markets.
Investors who buy stock during bear markets enjoy steep discounts. For example, a stock that was trading at $100 per share in a bull market might trade at $75 per share in a bear market. Savvy investors know that when the market turns bullish again, the stock is likely to pop back up to a more reasonable valuation, offering up significant gains.
Smaller, Intermediate Trends
Within a bull or bear market, there will be smaller, more focused trends. These may affect a certain sector of the market or even of a particular security. These intermediate trends usually last a few weeks or months, and there may be several intermediate trends within a longer-trend bull or bear market.
For example, consider a bullish market facing a global shortage of microchips, which causes vehicle manufacturer delays. Stocks in the vehicle manufacturing sector take a dive, though their downward movement doesn’t make the market as a whole trend downwards. In this case, vehicle manufacturers experience an intermediate downtrend in an overall bullish market.
Other Minor Trends
Even smaller than intermediate trends, minor trends may last less than a month. They’re more like “ripples” in the overall trend. Short-term traders often exploit these minor trends to produce significant profits, though doing so is risky.
It’s hard to predict when minor trends might reverse because it often happens quickly. Short-term traders use technical analysis and a wide range of technical indicators to better understand these minor trends and how to exploit them for profits.
Using Market Trends To Guide Decisions
When you understand the way market trends work, you can use them to guide your investment decisions. While this doesn’t mean you’ll be right every time, you may find it helps you become a smarter investor.
For example, the cardinal rule of investing is “buy low, sell high.” Yet many investors do just the opposite. When a position they own is declining, they sell it. And when the hottest new stock is going up, they can’t wait to get on board.
Investors who watch market trends, however, understand that a one-year-old bear market presents a buying opportunity, for example. And the thing to do when a bull market has been raging for five years may be to hold on or to take some profits. Watching for the shift from a bull market to a bear market, or vice versa is the key. Selling just before a bear market or buying just before a bull market should provide the maximum return on your investments.
If you try to time the market, you should be aware that it’s risky. No crystal ball can tell you exactly when a reversal will happen, and some trends last far longer than others. This is why many argue that timing the market simply doesn’t work out in your favor.
Nonetheless, there are plenty of investors who have successfully increased their returns with solid timing.
Those who plan on timing the market should consider researching technical analysis and learning how to use indicators that suggest when the market might shift direction. While no technical indicator is 100% accurate, they can give you better chances of profiting
Different Types of Stock Analysis
Trends are just one part of stock analysis, which can be technical like the trend data investors find on charts, or fundamental like data investors find in earnings reports. Fundamental analysis includes looking at a company’s financial statements to determine whether a certain investment is a good value.
There is also chart analysis, or technical analysis, which involves looking at charts of a company’s past stock price and analyzing it for clues to the company’s likely future performance. By observing trends in the stock’s price, chart analysts form a projection for what the price is likely to do in the future.
If predicting market trends were easy, everyone would be a billionaire. But knowing what to look for and making some educated guesses may give you an advantage when it comes to picking the best time to buy and sell.
Investors who take the time to learn about and use market trend data can greatly expand their profitability. Those who plan to invest or want to expand their profitability should read about technical analysis, trend identification and how to devise a strategy to make the most of market trends.
Karen Doyle contributed to the reporting for this article.
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