Bear Watch

Anatomy of the Bear: Lessons from Wall Street's four great bottoms, by Russell Napier is one of the truly great investment books, and also a timely one right now. Napier studied the history of the four great bear markets in the twentieth century in order to identify patterns investors could use to better navigate such challenging environments. The study was conceived as a "field guide" for financial bears.

Much of the emphasis of that book, however, was on identifying the end of the bear markets - to determine when it was safe to get back in the water. Now, after having experienced an incredible bull market run, the more relevant goal for investors is to determine if a new bear market is beginning. Once again, we can use history as a guide. Once again, there are useful patterns to pick out. Once again, we have an important question to answer: Are we entering a major bear market?

What kind of bear?
For starters, it is important to get a definitional detail out of the way. Financial media often describes selloffs of twenty percent or more as a bear market. That is not what we are talking about here. Twenty percent selloffs can happen for cyclical reasons, for technical reasons, or for not much reason at all. In the context of normal stock volatility, a twenty percent selloff is just not a very unique or informative occasion.

Rather, a bear market for purposes of this discussion is a much bigger ordeal. It is the kind of phenomenon that can last years. In fact, "it usually takes a long time - about 14 years - for stocks to travel from peaks of overvaluation to depths of undervaluation." It is a process that can "shred a portfolio and seriously damage your wealth," and therefore is worth the effort to avoid. Conversely, successfully investing near a bear market bottom can make investment careers and juice retirement fund returns.