Take Advantage Of A Bear Market

No doubt you have heard people talk about bull markets and bear markets before. For those who don’t know what the terms mean: A bear market is nothing else but a continuous and sustained drop in the price of a wide selection of stocks over a period of time. Usually a market has to remain in a declining phase for at least two months and drop by at least 20% before described as a “bear”.

A bull market, on the other hand, is therefore a prolonged, widespread increase in the prices of stocks. Just as the pessimism of a declining market pushes it lower, the optimism that drives a bull market tends to push prices even higher.

You shouldn’t get confuse a declining market and a normal market correction. A market correction happens after a sudden increase in the price level when people sell their stocks to take profit. It normally doesn’t last more than a few days.

It’s easy to see how one can make money in a bull market. In fact, it’s hard not to make money in such a market. But how can you make money in a declining market?

One way of making money in a declining market is if you could with some degree of accuracy predict when the market has reached its bottom. Then buy a bunch of stock tips. Traders use all sorts of fundamental and technical indicators to assist them with this, but it remains a mammoth task. Many highly experienced traders still often lose money because they incorrectly expected the market to turn around.

Another possibility is to sell stocks short. What you in effect do is to borrow stocks from a brokerage and sell them to a third party at the current high price. Once the price has dropped, you buy them back and refund the brokerage. You should only do this with stocks which are virtually sure to drop in price.

You have one other possible course of action if you want to make money in a bear market: buy put options. This type of option actually rises in value as the price of the underlying share goes down. As with short selling stocks, if you are wrong about the market and it actually goes up, you will lose the money you paid for these put options.

For more on the stock market subscribe to the WallStreetWindow swing trading newsletter written by Mike Swanson.