About Bear Markets The one thing that is certain is we WILL have a bear market. In fact, in the history of the stock market, we always have bear markets after bull markets and vice versa. The question is when. I don't have a clue when a bear market will come and don't let anyone fool you into believing that they can predict one accurately. To quote the late Ben Graham, "In my forty years on Wall St., I have not met anyone who can forecast stock market movements consistently." This is from the dean of Wall St., father of security analysis, and the mentor of Warren Buffett. So at least take it from Graham if you don't believe me. In the past, various people have succeeded in predicting major market crashes. This usually resulted in instant fame and publicity. However, they all eventually faded into obscurity because they couldn't do it consistently. Remember, even a stopped clock is correct at least twice a day. Besides, I have yet to find a stock market forecaster on the Forbes 400. If we can't forecast stock market movements, then there is not much point in wasting precious time on it. So why do investors worry about bear markets? They worry because they don't want to lose money when their stocks decline in value. But are they really losing money just because their stocks' market value has fallen? Intrinsic Versus Market Loss An owner of a private business focuses on whether the business will make money over the long run. If the business he (this includes she) owns makes money, then he in turn will make money. Very few owners will concentrate on whether they will be able to make money by counting on someone buying the business from them at a great price (at least not until they want to retire). Yet this is what happens in the stock market. As an owner in a private business, my focus will be on how the business is doing and not on what my next-door neighbor is willing to offer me to buy my business. I'll be worried if my business undergoes significant decline in profitability. However, I'll politely show my neighbor the door if he is acting stupid one day and offers me a ridiculously low price to buy my business. An owner of a private business is worried about the decline in profitability of his business, but not by the decline in the purchase price offered by his neighbor. Owning stocks is no different from owning a private business. You just have to know how to handle your next-door neighbor properly in the case of publicly listed stocks. (For a great discussion on proper stock market attitude, read Chapter 8 in The Intelligent Investor by Benjamin Graham.) If you are a real long-term investor, then market loss should not faze you at all if there is no intrinsic loss. As you can choose to ignore your neighbor's low offer, when he is irrational - so you can choose to ignore market movements, including bear markets. This mental attitude is one of the best ways to prepare for a bear market. No knowledge in options or puts is required. I always try to shut out distractions from market volatility by focusing on the underlying performance of the business and not its short-term market-price movements. If you ask Forrest Mars (owner of privately-held candy giant Mars, Inc.) whether he will sell you his company for 30% less after the S & P declines by 30%, you will be booted out his door very quickly.

Gun To Your Head You will only lose money if your neighbor succeeds in forcing you to sell him your business under his terms by pointing a gun to your head. The gun in the real world is usually margin calls or other forms of short-term debt. When you invest in a private business, it is unwise to use money that you will need in a hurry, e.g. money you need to use next year to put your kids through college, or money that your friendly banker lent to you on a demand basis. This is because it will take at least a few years for the business to develop and your money will therefore be illiquid. Investing in a business is a long-term commitment and you should not use short-term funds for long-term investments. The same is true when investing in stocks since they are parts of businesses. However, the "liquidity" in the stock market gives people the false impression that they can jump in and out quickly when investing in stocks. If you need to jump in and out frequently, then you will naturally be troubled by market volatility or a major bear market. It becomes a game of musical chairs. So make sure your neighbor cannot point a gun to your head and force you to sell under his terms - fix any funding mismatch before he walks in the door. Buy a stock with the same mentality as if you were putting up money to start a new business. Think of it as an illiquid investment, at least for a couple of years. Once you think that way, you will not be troubled by a bear market. Overpayment Another thing that I'll do in preparation for a bear market is take a hard look at my stocks and figure out whether I have overpaid for them. If I paid way above intrinsic value for my stocks then I have already lost money, bear market or no bear market. Even if for the time being I experience no loss in market value in the stocks I overpaid for, it is only a matter of time before the real loss catches up with me. In such an instance, I'll have to play the greater fools game - try to unload my mistakes on to some greater fool in the market before the music stops.

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Sell Before The Crash Should I try to be really astute and sell all my stocks in anticipation of a major bear market and hope to buy them back later at much cheaper prices? Theoretically this is a great idea. However, before I sell everything, I have to consider the following : 1. When will the major market decline come? What if it doesn't happen for a long time and the market continues to zig zag for many years or, worse, goes up further? 2. When the bear market comes, will I be able to buy back my stocks at low enough prices after taking into account taxes and transaction costs? 3. Will I be able to overcome the psychological obstacle of waiting for my stocks to bottom out before buying? Most people waiting to buy at the bottom ended up missing the stock because you can rarely call the bottom of a stock decline. The above decisions are simply too hard to make for a mere mortal like me. Some people have the ability to do it, but not I. If I am lucky enough to have bought into solid companies at reasonable prices, then I am far better off telling my neighbor where to go instead of selling everything before he comes. I cannot emphasize enough that you have to be realistic in assessing whether the stocks you own are gems or dogs and whether you have overpaid for them. If they are dogs and, worse, you overpaid for them, then you better sell them while the going is still good. Investor's Diary Flash Bulletin Here is my version of ID's Flash Bulletin : Looming stock market crisis, major bear market around the corner, the world is going to end ........ When will it happen? I have no idea ! What should investors do and how can they prepare for the crisis? If you are a true investor, then do nothing because you are already prepared ! Correction ! Instead of doing nothing, embrace volatility when it comes because you will make more money from the opportunities served up by your crazy neighbor than in a pricey market like now.