What Defines a Bear Market?

Any time the stock market falls, pain is felt by investors. The severity of the fall determines how it is categorized and helps to provide a sense of how quickly a rebound may occur. The three categories are a pullback (a decline of 5%–10%), a correction (a drop of 10%–20%) and a bear market (a plunge of 20% or more).

This past October, the S&P 500 briefly fell by more than 20% from its 2011 highs, putting it in bear market territory. A quick reversal lessened the severity of the large-cap index’s fall, making the drop a severe market correction as of press time.

When calculating performance numbers for our fund guides and our stock screens, we look at the performance of several indexes to determine if a new bear market (or bull market) period has started. Based on the data as of September 30, we concluded that stocks were not in a bear market. There were exceptions, as some markets and sectors had plunged by more than 20%, but such a big plunge was not evident across the majority of the indexes we reviewed.

Though calling a decline a correction instead of a bear market may sound like a naming convention, history shows a correlation between the magnitude of a fall and the length of time it takes for stocks to rebound. Historically, stocks have recovered at a more rapid pace from corrections than from bear markets. Therefore, not crossing the –20% line is a positive for stocks, both on the way down and on the way back up.

Keep in mind that stock prices are unpredictable. Furthermore, the markets never give a sign that a correction or a bear market has ended. Thus, for long-term investors, it makes sense to maintain an allocation to stocks, even during a bear market, as opposed to trying to time buys and sells.

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