A bear market is characterized by a sustained period during which the equity markets are down 20% or more from their recent peaks. In addition to widespread price drops, market sentiment sours, and investors begin panic selling. While not all bear markets lead to recession, it is a risk as unemployment rates rise and corporate confidence falls.
Sounds like a terrible time to retire, right? That may not be the case, especially if you're prepared. You can begin preparing by asking yourself these three questions.
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1. What's my current financial situation?
Take a look at your present situation. Have you saved as much for retirement as you would like? Would you be better off postponing retirement until the bear market passes? If not, is there a way to minimize the amount of money you need to withdraw from your retirement account while waiting for the bear market to end?
Finally, can you make relatively pain-free, short-term cuts to your monthly budget? For example, if you currently budget $100 to dine out each week, could you trim it to $50? If you regularly meet friends at a local bar to watch games and enjoy each other's company, could you invite them for at-home game nights instead? After all, you're all living through the same bear market.
2. What short-term goals can I put off (if necessary)?
Your goal during a bear market is to preserve as much cash as possible. The more you save, the longer your retirement account will last. The average bear market lasts around 11 months. Ask yourself what you have planned for the upcoming year and determine whether any of it can be postponed.
For example, if you're planning to spend several weeks traveling or expect to purchase a new vehicle, consider where the money is coming from first. If the plan is to take it from your retirement account, you may want to rethink that strategy.
Here's why. One hallmark of a bear market is that your investments drop in value. When values are low, you must sell more assets to withdraw the money you need. The more you withdraw, the less money is left to purchase well-priced investments. Without those well-priced investments, you have fewer assets that can increase in value as the market recovers.
3. Does my portfolio need rebalancing?
As dramatic as it may all feel, it rarely pays to overreact during a bear market (or in any market, for that matter). Still, that doesn't mean you should avoid making changes. You may find that your portfolio is out of alignment. Here are several reasons why rebalancing your portfolio can be particularly important in a bear market:
- Risk management: During a bear market, different asset classes in your portfolio can be significantly altered. For example, one asset class may remain stable or increase in value while other asset classes decline. When a bear market disrupts the careful balance you've worked for, rebalancing can help restore your portfolio's risk profile.
- Buying opportunities: A sometimes-overlooked fact is that bear markets present a unique opportunity to buy quality assets at a discounted price -- thanks to those who panicked and sold assets when the bear market hit. By selling overperforming assets (and there are likely to be some) and reinvesting in undervalued assets, you position yourself for potential gains as the market begins to recover.
- Strategic planning: Bear markets are known to trigger emotional reactions, often leading to rash decision-making. When you focus on rebalancing your portfolio, you're able to do something constructive while others make knee-jerk decisions.
Rebalancing your portfolio gives you time to slow down, remind yourself of your long-term investment strategy, and improve your portfolio performance moving forward.
Preparing for a bear market involves sound financial practices, strategic planning, and mental toughness. By asking yourself these three questions, you get a better understanding of how ready you are to retire.
