The Lifecycle of a Bull Market: Key Phases and What to Expect

The Lifecycle of a Bull Market: Key Phases and What to Expect

‘The auto stocks ended bullish today.’

‘The markets ended with a bullish sentiment and high indices.’

Do these sound familiar? These are statements that you often come across in newspapers and financial websites that report daily market activities. But what exactly do they mean by a ‘bullish sentiment’ or a ‘bull market’? Let’s understand.

What is a bull market?

A bull market occurs when the financial market experiences rising prices or is expected to rise. Usually, a bull market is defined as a 20% or more increase from recent lows, measured by a major stock index. It’s not just about the usual daily fluctuations but represents a long-term upward trend where most securities and assets continue to grow.

While there’s no exact way to pinpoint a bull market, certain indicators help identify it:

  • Rising prices: Stock prices steadily climb over time, showing increased investor confidence in both the market and the economy.
  • High trading volumes: As prices rise, trading activity increases. Investors seize the opportunity to make gains, bringing fresh investments into the market.
  • Strong economic growth: Bull markets often coincide with periods of economic expansion, during which businesses grow, leading to higher consumer spending and greater demand.
  • Positive investor sentiment: Optimism about the future makes investors more willing to take risks, further fueling market growth.
  • Low-interest rates: Lower borrowing costs make it easier for businesses to access capital, encouraging growth and investment, which helps drive stock prices up.

Phases of a bull market:

Sir John Templeton once said, “Bull markets are born on pessimism, grown on skepticism, mature on optimism, and die on euphoria.” This aptly defines the four phases of a bull market.

Bull Market

The Pessimism Phase

This phase hits after a major downturn. Everything looks bleak, and bad news keeps coming. Despite this, the market begins to ignore the negativity. It’s tough to start investing here since the mood is still gloomy, but smart investors begin buying in. Metrics like Price/Book or Dividend Yield are useful now. Trend followers are still bearish, often seeing a sideways market. A notable exception was the rapid recovery after the 2008 financial crisis, even though many investors remained pessimistic.

The Skepticism Phase 

You might hear about the market climbing “the Wall of Worry.” This refers to the skepticism phase. Here, the bad news stops, but investors remain doubtful. They only buy when earnings metrics, like P/E or EV/EBITDA, look appealing. Short-term trends become positive, but volatility remains high, so many investors are cautious.

The Optimism Phase

As negativity fades and the economic outlook improves, the news becomes positive. More investors join in, and the market broadens. This phase can last a while, with trend followers performing well. Volatility drops, making buying on dips effective. Investors use valuation measures like the PE ratio to growth metrics and relative valuations to justify the market’s strength.

The Euphoria Phase

Money-making feels effortless here, and optimism is at its peak. Investors who had stayed on the sidelines start entering the market. IPOs soar, and stocks previously considered untouchable perform exceptionally well. New valuation metrics often appear, such as the “eyeballs” metric during the 1999 tech boom, where internet companies were valued based on website traffic.

How can you make the most of a bull market?

Start by buying early if you want to make the most of a bull market. This lets you take advantage of rising prices. When prices peak, it’s a good time to sell. Although pinpointing the exact bottom and top is tricky, any losses from missing them are usually small and temporary, as prices generally keep moving up. A few other strategies that investors use during bull markets are as follows-

  • Buy and Hold:

This basic strategy involves buying a security and holding onto it until prices rise. It requires confidence, which is often high in a bull market. The optimism drives the buy-and-hold approach.

  • Increased Buy and Hold:

This variation involves adding to your holdings as the security’s price goes up. It’s riskier but can be effective. For example, you might buy more shares each time the stock price reaches a set increase.

  • Retracement Additions:

In a bull market, prices don’t move up in a straight line. Short-term dips, known as retracements, can occur. Some investors buy during these dips, assuming that prices will quickly rise again. This strategy aims to get a lower purchase price during these brief reversals.

  • Full Swing Trading:

This aggressive strategy tries to maximize gains by using short-selling and other techniques to capitalize on fluctuations within a bull market. It requires active management and can yield high returns if done correctly.

The bull market may seem thrilling with its soaring prices, but it comes with challenges. Believing prices will keep rising forever can make you complacent. Without proper risk management, a market dip could be costly. Stocks may become overvalued, with prices not supported by strong fundamentals, which could lead to a crash. Even amidst strong economic growth, uncertainties can still affect the market. Remember, the bull market is just a phase, followed by a correction or recession. Staying informed about market trends, including ‘What is IPO?’ and economic conditions, will help you navigate these shifts wisely.

FAQs:

For how long does a bull market sustain?

A bull market can last for several years or even decades. But, it can end suddenly if unexpected events or changes in market conditions occur.

What is an aging bull market?

An aging bull market is when stocks keep rising despite some investors urging caution. It often comes with excesses and can signal a shift in market sentiment.