Sunday, November 23, 2014

Do you have what it takes to withstand the bear market?

I wrote a post last month regarding how Bear market will make you rich, if you are willing to accept that price volatility is part of the investment game. Of course, as Musicwhiz has pointed out right at the end of the comment, the business moat should not be adversely affected by the recession that they are unable to bounce back when things pick up. We will see what Howard Marks have to say about that later.

Now, history has shown repeatedly that the market will rebound after a bear market and it appears that many of the financial investors seem to have the warchest and the mental preparation to withstand a dramatic fall in price.

However, it is always easier in theory than to walk the talk.

Take myself for example, I did a quick exercise on my net worth on equity today versus what it would have been back during the recession in 2008. As of Oct 14, my portfolio on equity stands at $250,025. Assuming I used the same portfolio today to compute the lowest price it had seen during the GFC, my portfolio would have looked like this.

No. of Lots
Market Price (SGD)
Total Value (SGD) based on market price
FraserCenter Point Trust
SembCorp Ind
China Merchant Pacific
Ascott Reit
Mapletree Greater China Commercial Trust*
FraserCommercial Trust
ST Engineering
Ascendas Hosp. Trust*
Stamford Land

Total SGD



That's a 124% drop in the market value to what I have today.

I don't know about you but that would take a lot of pills to swallow those losses, especially as your portfolio gets bigger. Although I did not go through the previous GFC cycle, but I know they come to you thick and fast. Back then, things were so serious that I remembered companies were closing down and for stronger companies, there was salary and hiring freeze across almost all companies. And I can tell you that there's plenty of considerations to think of when those things happen: Sell now? Buy later? Buy some more? Buy which stocks?

Do you have what it takes?

During periods of uncertainty and volatility, many investors get scared and begin to question their investment strategies, often abandoning them in favor of capital preservation. The most common ones we saw was the selling and pulling out of the stock market altogether, wait on the sidelines, and then attempt to get back in when the economy recovers. As previously highlighted in my post, we know the consequences of waiting on the sidelines and attempt to enter the market at its lowest price. We often fail to sell at the highest price and enter at its lowest price and if you do this consistently, you would be worse off than being invested in the market at all times.

Mentally, it is also not easy to convince and play the devil's advocate with oneself. Despite understanding the general theory that adhering to the public euphoria and following the herd are not always the best option, taking the opposite side is not as easy as it seems. Howard Marks, in one of his excerpt from his book on Contrarianism, mentioned:

"Accepting the broad concept of contrarianism during bear market is one thing. Putting into practice is another. On one hand, we never know how far the pendulum will swing, when it will reverse, and how far it will then go in the opposite direction"

"In order to achieve above average results, you have to think different and better. It doesn't always work to do the opposite of what the herd is doing. You have to know what they're doing, know why they're doing it, know what's wrong with it, then do the opposite"

Finally, the psychological barrier of having to face the losses during recession, even if we know that they are temporary, is undeniably the constant outcast playing in the mind. Alan Greenspan called the human mind for this as Irrational Exuberance.

As much as we know that the losses during recessions are temporary, we hate losing money a lot more. Because of this, we want to hold on to what we have for fear of losing more, which explains why most sells their stocks at a low price, then subsequently buy them again at a higher price. These people are the trendsetter and we see why they have not been successful as the firefighter mental way of investing.

So are you prepared for the bear market? Do you have what it takes to survive and opportune at the bear market?


  1. Hi B,

    Good and timely post indeed! It seems too few investors write about a potential bear market or market crash and too many focus on the upside. Being constantly reminded of our downside is the hallmark of successful long-term investing.

    A few points I have:-

    1) The drawdown I computed would be -55.4% from your current equity value of $250,025. This is computed by subtracting $111,520 from your current equity value, divided by the current equity value - ($138,505)/$250,025. Incidentally, this drawdown is similar to what I faced with my own portfolio during the nadir of the market between Oct 2008-Mar 2009 (my unrealized loss was around -50% to -60% of portfolio cost). It's a very bitter pill to swallow and you wake up every day feeling like crap. No kidding.

    2) I don't really understand this statement - "Because of this, we want to hold on to what we have for fear of losing more, which explains why most sells their stocks at a low price, then subsequently buy them again at a higher price." My understanding is that loss aversion kicks in when prices crash, which makes the pain unbearable and that's what makes people sell. People cannot tolerate the losses anymore and do NOT want to hold on for fear that losses would get worse, and so they sell out. This is known as "capitulation" and was exacerbated by margin calls and forced selling during the GFC.

    My conclusion is that most of the current investors (i.e. those who had invested post-GFC in 2010-2011) are not mentally prepared for a bear market. Neither have they factored in severe downside scenarios into their models or projections when computing margin of safety. Talk about being lulled into a false sense of security by rising asset prices....

    My advice to investors would be to read more on valuations and also behavioural finance. The psychological aspect of investing is often woefully neglected.


    1. Hi MW

      Thanks for your valuable feedback based.on your experience with the bear market.

      Thanks for correcting on my computation. I think I used the wrong denominator to compute them. It should be around 55% drop from current level. Still it scares people out of the blue having their net worth halfed just like that.

      Capitulation concept is interesting there, especially with double edged margin calls and short sellers, the magnitude of the downfall is amplified. It takes simply a couple of weeks or months to bring down to that level. Its like a niagara falls.

      You mentioned about factoring a downside scenario in the valuation. How do you do that? Do you forecast negative growth in your valuation? Or do you factor in higher discounting value to make it more conservative? For me, I like to forecast growth at 0 when factoring the downside. In other words current price level must be good enough at current earnings, as the future will be worse off.

    2. The capitulation happens because there are forced sellers in the market. Normally, you will see precipitous falls in share price when there are forced sellers and motivated sellers. Motivated sellers sell for reasons other than fundamentals (e.g. switching out of sectors, dropping a stock that's been excluded from an index etc.), while forced sellers may have equity collateral for loans which are now being converted forcibly into cash, or margin calls for those who have used leverage to speculate/invest. Both will greatly amplify the magnitude of the fall and bring share prices down to ridiculous levels - think Graham's classic "net-net" scenario where some companies are better dead (liquidated) than alive!

      You can definitely use negative growth in your valuation, and that's assuming you use a DCF. There are other methods of valuation as well, but some are relative though. You can also be more conservative and use EPV, Reproduction Cost or Net-Net (NCAV) method to estimate how the assets will do in a fire-sale or under severe economic stress.

      Factoring in 0 growth should actually be the DEFAULT when investing, because you should assume that growth is indeed zero and you are purchasing the company based on the earnings power and asset value NOW. This gives you the required margin of safety and the growth comes for free as upside.

      Hope this helps.

  2. Replies
    1. Hi Uncle CW

      Would using a percentage dollar cost averaging method do the trick for your next bear strategies? I guess it allows you to have a fixed follow.

  3. Hi B,

    Haha, we haven't even had a market crash yet lol :) That's why we need a support network in the form of encouragement between bloggers in this small community, not only to endure and survive, but more imptly to thrive ;)

    1. Hi LP

      I think I may be watching too much end of the world kind of movie such as 2012 or day after tomorrow.

      It feels like with all the injection coming from china japan and EU the party gets longer and more dangerous. We could be in for a very fun ride once this all stops.

      Too many pricing in optimism at the moment, but those who hv experienced the bear market knows whats in it for them

  4. Hi B,

    Also remember the very harsh lesson from the CLOB shares saga. Total loss. After that, I always believe that we should only invest the money that we are prepared to lose and will not affect our ability in placing the rice on the table.

    If you pick good and strong companies, and you have the holding power, those companies will sure to bounce back after the crisis.

    And also consider how your portfolio would grow if you invest at those prices you listed on your table.


    1. Hi PIF

      I think you are one of those who had been through the sever bear market. Correct me if im wrong :)

      Good companies with good moats to rebound when market picks up. Thats the key there. Too many companies like Cosco and NOL just simply floating around since the peak of the crises and never bounce.back.

  5. Hi B,

    Thanks for the warning... Hint thatMr. Bear coming.... Haha

    I got substantial loss before in my portfolio, and take years to recover previously.

    The ability to ignore the paper losses lies with the confidence of the business you bought. Mind control...

    Confidence is built by reading, knowledge, experience, age etc Agree with musicwhiz that reading books on psychological and behavior finance helps too.

    Overall, life experiences helps too, or refer to people with more experiences.


    1. Hi Rolf

      I guess you are another with bear life experience so you know how it does to your portfolio.

      Psychological mind and behavioural finance have been key to successful investing. Ive recently been interested to explore more on this part to learn how human mind behaves during specific times.

  6. Everyone is a long-term investor until crap hits the ceiling fan. Bear markets can be scary. The recent stock market decline of barely 10% freaked everyone out. I try to be agnostic on markets and just focus on the individual companies themselves. There are some companies I bought shares in where the price is like 75% from its high. It could go lower. Who knows. But great post. With the overall market making sunshine and rainbows its a good reminder that losses can occur. Thanks!

    1. Hi Henry

      Bingo there!!!

      Everyone claim they are long term investors and have been posting increasing net worth for the last 4 years or so but we know once the sever bear market kicks in, half of them totally gone.

      Its kinda scary and only the fittest survive at the end of the day.

      Its all rainbow and shine right now.but we know the dark side might come in when the party stops. We got to.get when the party is still going on.

  7. When the bear market comes, i just hope that we would have the wisdom to buy. Sometimes even with a minor correction to my portfolio, i already have the no-eye-see attitude when that time was actually the best time to buy!

    1. Hi PIB

      I remembered back in Oct we had sort of a small correction in Dow and everyone was already panicking to the max.

      I was in Spain back then and the news from Bloomberg are all over the news. Wait till it gets ugly, it will be an interesting episode to see how investors react.

  8. Hi B,

    I sometimes also wonder how much volatility I can tolerate since I have never been involved with a big bear. Moreover, assets are increasing in size over time.

    Guess using the 08/09 crisis as a test for our current portfolio is a good proxy. First saw such a test at chin wai's blog and your post is probably another good reminder for me not to procrastinate anymore. ;p

    1. Hi 15hww

      I think you'll do fine.

      You have taken a portion out of your Philipsbuilder account and have sufficient support income from both yourself and your wife for other use. So the money invested is all under your investment account and it's probably good to assess the company we are invested in during the bull period :)

  9. Hi B, ever since I started investing in stocks, I have never experienced a bear market yet. However, when a bear market does present itself, I see it as an opportunity to stock up on index funds and selected stocks. I just hope I can swallow the temporary share price falls. In any case, the stock market seems to be recovering and I don't see a bear market for at least a few more years, though the market can be hard to predict!

    1. Hi Jeff

      A bear market presents itself with an opportunity to add stocks at a much cheaper valuation. So contrarians would love to see bear market happening real soon.

      I think it is difficult to predict when it will happen. What we can do is to focus on what we can control (i.e processes) and let the outcome takes course itself ;)

  10. Hi B,

    Even the most well constructed portfolio wont be able to withstand the price drop of every single counters in a bear market due to pessimism outlook. Factory orders will dwindle, consumption will do down, companies will close down and people will lose their jobs.

    Based on last sentence, "So are you prepared for the bear market? Do you have what it takes to survive and opportune at the bear market?" Its not difficult to know actually. It depends how much liquid cash and cashflow do you have on hand at the moment. If you only have 10k cash on hand, there is really nothing much you can do to profit from it.

    The worst scenario during bear market is probably your portfolio value go down, you lose your job, you still got housing and car loan, and you don't have much liquid cash on hand. Most probably you will be force to sell some of your stock holdings or real estate at a loss to get much needed cash.


    1. Hi MS

      Thanks for commenting your thoughts.

      You are right. When economy goes into recession, no industry is spared. Things are so globally connected that it will affect us in many ways. Even our risk is amplified by having our bonuses and salaries freezed, not to mention there will be some restructuring at the other end of the business.

      Unrealized losses are probably the last thing I would be worried. As long as we keep our processes in check, and have a strong balance sheet ourselves, then bear market will only be an opportunity for us to pounce on.

    2. If I use yr example of lowest level (111k) and current level (250k), which is 124%. Lets say yr idle cash level is 10% of yr current portfolio which is ard 25k. If you dump this 25k at lowest point, it will give you 56k at current level.

      All these will only happen if you are holding much more than 25k idle cash in the banks and if you get to keep your job during the bear market, or else even got opportunity, you also cant pounce on it.


    3. Hi MS

      For me I wouldnt want too eager to rush during a bear market. A bear market usually last for quite a time and as long as I hv cashflow coming in (the least from my job) then I will continue to focus on the business itself rather than the attractiveness of the price itself. I continue what I hv been doing and the process thay I can control. Outside interference and outcome are not something I can control of so I don't bother about it too much.

  11. Hi B,

    You can say that Cash is an option. Cash is insurance. Cash is courage booster. How much Cash do you have to participate in rights issues so that your dividends maintain at same level? How much Cash do you have to profit on dips? How much Cash do you have to keep your head in a sane manner when you are battered by bad news? How much Cash do you have to cover your loans/expenses even when you have no job.

    In short, its all about how much liquid cash do you have at the moment. Cash in the banks that inflation is nibbling away.


    1. When u put cash into ur portfolio. It serve a purpose. It is integral part of ur portfolio. Not confuse ur investment account with daily expense account. Patience is the virtue in investment. Very few can resist the temptation in bull market. Many buy at the peak. Then market plunge, u wish to buy. Only find no money.

    2. A lot of people underestimate the importance of holding a lot of cash in their stock portfolio. Assume that your stock portfolio is 300k and do people actually hold 100-150k in liquid cash every now and then (not only for rainy days but also to profit during recession or participate in rights issues)?

      A lot of people like to talk about buying during bear market or recession Always quoting Warren Buffet and talking about “Be Fearful When Others Are Greedy and Greedy When Others Are Fearful” But in reality, do you know how much cash do Warren Buffett holds every now and then?

      During bear market, do they have the cash at that time to act on it? In recession, a lot of people lose their jobs and with your rice bowl shaky, do you still dare to use whatever cash that you have left for investment?


  12. It's not only the shrinking of the worth of portfolio. But also the opportunity missed in bear market.

    Like playing chess. One must plan for scenarios and contigencies. If one invest based on good wishes, when bad situation comes, one will be stressed to make foolish decisions.

    How abt next time buying a stock, do not ask how much it can go up. But how much loss am prepared to take and for how long

    1. The worst scenario (which I put above) during bear market is probably your portfolio value go down, you lose your job, you still got housing and car loan, and you don't have much liquid cash on hand. Most probably you will be forced to sell some of your stock holdings or real estate at a loss to get much needed cash.

      Another worst scenario is when the company has cashflow (same as individual) issues or fraud issues, and the company has to be liquidated and closed down.


    2. Hi MS

      Thanks for your comment.

      I hear what you are saying and rightfully so that cash is a very important element to take advantage in a bear environment. Risk is also amplified during the bear market when job stability becomes riskier and cashflow of company gets tighter.

      I think there need to be a balance here because I can simply liquidate all my holdings at the moment and simply sit down and wait for the next bear market to come. Even then, there will be questions such as what is low enough and when is it going to come, so you are essentially playing with yourself a lot of other speculative questions to answer.

      They are certainly not wrong but just different people have perhaps different strategies. Some people may be comfortable with 10% cash while others may be comfortable with 90% cash. No one can say which is wrong. It's just the processes and allocation we are talking about.

    3. Hi B,

      Will you really liquidate all your holdings now and sit and wait for the next bear market to come? I doubt so.

      Its more practical to actually ask yourself (or whoever read the post). The hard truth is if today you lose your job, how much liquid cash do you have to survive and last before you can find your job in 6-12 months time. Will you be forced to sell your stock holdings and real estate at a loss during a recession? If you find this thought uncomfortable and disturbing, then it would mean that you are pretty exposed (holding little cash).

      This will actually answer the header and question in your post "So are you prepared for the bear market? Do you have what it takes to survive and opportune at the bear market?"

      If you have gone through 2008 GFC, its really nothing compare to 1997 AFC and 2003 SARS. The 2008 GFC didn't really last that long because of QE. The job market is pretty lull from 1997 to 2005. If you talk about SARS, everything come into a standstill. You will find malls, streets, aeroplanes, and hotels empty.


    4. By then, you talk about processes and cash allocation is already too late. By then, you start thinking of accumulating cash is abit too late.

      Below you mentioned it can be both good and bad depending on which cycle you are in. I beg to differ. Its always good to hold cash. In fact the best time to accumulate cash is actually the good time. The best time to spend/invest is the bad time => of cos using the cash that you have accumulated during the good time.


    5. AFC was very scary. CLOB Saga was "terrorism". Overnight many were broke!

      SARS. Not sure I would be around to bother about stock market. Scare to death!

      GFC scary to those who came to the stock market after SARS.

    6. Hi MS and Uncle CW

      Thanks for sharing your experience on the previous AFC, SARS and GFC. I am sure this serves as another reminder to people out there who are exposed with little cover.

      I have a feeling that the cash you mentioned in your last post up there has got to do with your overall cash position, including your emergency funds. For myself, I do not hold much warchest of cash for investment opportunity, maybe at around 10% right now but me and my wife are very well covered in terms of emergency funds. Assuming the worst case scenario where somehow I lose my job, the funds could last our family expenses up to around 2 years without touching the portfolio at all. I covered our family in terms of all the necessary insurance as well so I think this part is covered.

      As far as my job is concerned, I have also analysed the risk during recession. I am in a pretty fortunate situation that my job is safe in terms of the last person to go. In other words, if my position is gone, that would mean that the company goes bust and I have to close all the accounts and file for liquidation. It is quite unlikely at the moment because it is backed by the big brothers in Copenhagen. Never say never after what happened to Lehman but quite a low probability it will happen.

      I guess what I was trying to say in this post is not about taking advantage per se when bear market comes (that is in another post) but rather let people realized how exposed out there for you that your lifestyle would change on a bear market situation.

  13. Hi Richard

    You are right. Cash itself is an allocation of asset in your portfolio and a strategy to play along. It can be both good and bad depending on which cycle you are in. Like a chess game, you can win or lose a game based on the strategy you make. There one move fit for all.