Exploring the Contrasts Between Bear Markets and Recessions

Key Points

  • A bear market is a sustained period of declining asset prices, usually marked by a drop of 20% in the price of an asset from recent highs. Bear markets may be overarching or industry-specific.
  • Recessions are long-lasting and more economically significant events and may require government intervention to correct.
  • Don’t assume that every bear market will lead to a recession, as this is rarely true.
  • 5 stocks we like better than EXA)

Each time the United States enters a bear market, investors inevitably wonder if this is the economic downturn that triggers the next recession. A bear market vs recession is not the same — they are ultimately different phenomena that are not causative of one another.

Understanding the difference between a bear market and a recession can potentially help investors avoid closing out of their positions prematurely and accepting losses that would have naturally corrected themselves. Read on to learn more about bear markets vs recessions vs depressions and how to invest at each market stage.

Bear Market vs Recession

Is a bear market a recession? Bear markets and recessions are two different economic phenomena characterized by falling asset prices, rising unemployment and low consumer confidence. It’s not accurate to say that bear markets or recessions cause or lead to one another, but instead, that they coincide because they share most of the same economic symptoms.

Definition of Bear Market

A bear market is a significant and sustained decline in the prices of a particular financial market or asset class, such as stocks, bonds or commodities. While a bear market can occur individually within any asset sector, an overall market can also affect multiple asset classes.

Bear markets are characterized by a drop of 20% or more from asset price recent highs. Investor pessimism, economic factors, geopolitical events or a combination of these drive these periods of economic downturn. They can occur in various market segments without necessarily indicating an overall economic downturn, but in severe cases, a bear market can contribute to a recession.

Does a bear market mean a recession is right around the corner? No, in many cases, the start of a bear market does not indicate that an economic recession is coming. While the two often connect due to their dependence on economic conditions, the relationship is not causal, meaning that one event doesn’t reliably lead to another. A bear market might indicate a market correction rather than a recession, which is an event that brings down inflated market prices without causing a drastic economic downturn.

Do Bear Markets End Before a Recession Occurs?

Bear markets can end before a recession concludes, as they pertain to declines in asset prices and are driven by market sentiment and technical factors. Recessions, on the other hand, encompass broader economic indicators and may last through multiple sector-specific downturns.

How Long Do Bear Markets with Recessions Last?

Bear markets contained within a recession may be longer-lasting than bear markets that occur in overall healthy economies because the factors that cause both phenomena are similar. For example, both bear markets and recessions can be driven by reduced consumer spending and GDP decline, which can compound both periods of downturn.

Definition of Recession

Regarding recession vs bear market, recessions are more severe and long-lasting, with broader effects and overall implications. A recession is a major phenomenon characterized by a significant decline in general economic activity. Some factors that economists look at to determine whether or not the U.S. is currently in a period of recession include quarterly GDP growth, unemployment rates, consumer spending and retail sales and consumer confidence indexes.

A recession usually lasts for several months and is officially declared by economists based on specific criteria. While a recession can contribute to a bear market, not all bear markets coincide with recessions, as some may be caused by sector-specific issues rather than overall economic conditions. Some investors move their capital into defensive assets to hedge against the possibility of an upcoming recession.

Example of a Bear Market

As 2015 arrived, the crude oil bubble burst. A combination of factors, including oversupply due to increased shale oil production, slowing global demand and OPEC’s decision not to cut production, led to a steep decline in oil prices. Crude oil reached its lowest point during this bear market at around $27 per barrel in January 2016.

Image: Crude oil suppliers like Exxon Mobil (NYSE: XOM) felt the heat during this bear market and saw share prices plummet.

Example of a Recession

Aptly named, the Great Recession was characterized by a severe bear market in financial markets and a significant economic recession. The financial crisis drove the bear market, with major banks facing liquidity and solvency issues, causing panic selling and a sharp decline in stock prices. The recession resulted from the financial crisis, the subsequent credit crunch, and the broader economic fallout of the financial crisis. During this period, many businesses closed, unemployment soared and the global economy faced a substantial contraction.

Image: As a major S&P 500 index, SPY’s value suffered heavily during the Great Recession.

The global financial crisis was triggered in August of 2007, due to a combination of factors, including the subprime mortgage crisis, Lehman Brothers bankruptcy and a credit freeze. These events led to widespread panic in the world’s financial markets. At its lowest point in 2009, the S&P 500 hit a value of just over 676 points, representing a decline of 57% from the all-time high it saw just a few years ago. The Great Recession serves as a significant historical example of how a bear market can coincide with an economic recession, showcasing the interplay between financial markets and the broader economy.

Does a Recession Mean a Bear Market?

A recession does not guarantee a bear market, but the two often coincide. A recession is a broader economic contraction, while a bear market is a sustained decline in asset prices, usually driven by investor sentiment. Recessions can lead to bear markets if economic conditions erode investor confidence. Bear markets can also occur without a full-blown recession due to sector-specific issues or temporary market sentiment shifts.

Recent Recessions

Name

Onset

Recovery period start

Cause

Great Recession

December 2007

June 2009

Global financial crisis

Dot-Com Recession

March 2001

November 2001

Dot-com bubble burst

Early 1990s Recession

July 1990

March 1991

Primarily driven by high oil prices following the Gulf War

Recession of 1981 to 1982

July 1981

November 1982

High interest rates combined with rising oil prices

1973 to 1975 recession

November 1973

March 1975

Oil crisis resulting from the OPEC oil embargo

How Bear Markets and Recessions Overlap

While bear markets and recessions might not cause one another, they overlap significantly. The biggest way to showcase the overlap of bear markets and recession is to focus on the similar economic conditions that both phenomena share. A bear market and a recession are driven primarily by general economic slowdown. Economic indicators like GDP, employment and consumer spending decline in a recession, which can lead to reduced corporate earnings and lower stock prices and contribute to a bear market.

Both bear markets and recessions lead to negative consumer confidence, which translates to negative investor confidence, as spending and corporate health are intrinsically linked with many corporate health metrics. A significant aspect of the overlap of bear markets and recessions is the “wealth effect,” in which consumers tend to spend more as the value of their saved assets rise — and vice versa. In a bear market, investors’ wealth can decrease when stock prices decline, which may lead to reduced consumer spending. This drop in spending can further contribute to the economic slowdown associated with a recession.

Financial institutions may face increased stress during a recession due to rising loan defaults and reduced creditworthiness, which can lead to disruptions in the credit markets and a tightening of credit availability. Such financial market instability can exacerbate a bear market by causing widespread panic and selling. In some cases, a severe and prolonged bear market in the stock market can even contribute to the onset of an economic recession, as investors assume that losses are right around the corner.

How to Invest in a Bear Market vs Recession

When understanding the difference between bear market and recession and investing, maintaining a long-term perspective is key. Some investors panic during the onset of a bear market because they assume that bear markets will naturally lead to a recession, which is usually untrue. Panicking can lead to losses investors could have avoided by maintaining a more neutral long-term perspective.

Maintaining a diversified portfolio across various asset classes to reduce risk during a bear market. Diversification can help cushion the impact of market declines in specific sectors, which can help contain losses. Bear markets can be short-term corrections within a broader upward trend, so avoid making hasty decisions based on short-term market volatility.

If a recession does hit, you’ll want to focus primarily on capital preservation. Recessions can lead to prolonged economic challenges, so prioritize protecting investment funds by putting money into tried-and-tested assets, like major index funds. In addition to index funds, invest in high-quality, stable companies with a history of weathering economic downturns. Look for companies with strong balance sheets, solid cash flow and competitive advantages that are more likely to survive negative periods.

Bear Market or Recession?

The good news about both bear markets and recessions? No matter how severe they seem, periods of economic slowdown can last forever. The key to investing through a bear market or a recession is to maintain a diversified portfolio throughout the year, putting your capital into companies you have researched and believe have the fundamentals to make it through the full economic cycle. While bear markets and recessions can feel scary, they may also present once-in-a-lifetime opportunities to add undervalued assets to your portfolio.

Now that you understand a correction vs bear market vs recession, you can begin investing with the future of the U.S. economy in mind.

Must Read

Add Comment