With the record bull market run coming to an end at the hands of the coronavirus pandemic, it’s the perfect time to look at three bear market trading strategies to help bridge the gap until we find a bottom and stocks start to trend back upward.
There are many types of trading strategies out there, depending on the type of investor you are and what you really hope to gain.
Now that U.S. indexes are in a bear market for who knows how long, it’s easy for investors — particularly those who aren’t long-term investors just happy to get sales — to shy away from buying stocks.
But just because markets are down doesn’t mean there aren’t ways to profit — in fact, downturns are built for traders who know how to take advantage.
“Volatility isn’t a time to buy, sell or hold stocks. It’s a time to trade,” Money & Markets analyst Chris Cimorelli wrote in a recent column. “And this is a trader’s environment.”
So here’s a breakdown of a few top bear market trading strategies.
3 Bear Market Trading Strategies
1. Trade Options
This is the most common and perhaps profitable of bear market trading strategies.
It’s a way to see big gains when a particular asset drops in price. The other great thing about it is the most you lose as an investor is the price of the contract — that’s it.
For example, if you see XYZ Inc. is trading at $40, you buy a put option contract with a strike price of $35 expiring in 30 days for $2. This signals you believe the share price of XYZ Inc. will drop.
Let’s say you spend $200 to buy a $35 XYZ put option covering 100 shares.
Within that month, XYZ Inc. drops to $30 per share because of the bear market. You exercise the option, giving you a profit of $5 per share. At 100 shares, that’s $500. Take out the $200 contract price and you made $300.
Capitalizing on a drop in share price is why buying put options is one of the best bear market trading strategies. For more information on how to trade options, check out our complete guide.
2. Trade Inverse ETFs
We’ve told you about using exchange-traded funds to instantly diversify your portfolio.
On the other side of the coin is inverse ETFs. These ETFs pay a return when the benchmark it tracks goes down instead of when it rises.
For example, if you buy an inverse ETF that tracks the S&P 500, you are betting the index will fall. If it does you will see gains.
It’s kind of like shorting the market but much simpler. If the benchmark falls, the inverse ETF will go up by a nearly equal value.
There are also leveraged inverse ETFs that can provide even more gains when a benchmark goes south.
The downfall is that you have to know when to sell your inverse ETF positions or you’ll get burned when the market starts its climb. If you hang on to them for too long and the benchmark goes up, you can lose all of your gains, and then some.
The ability to capitalize on benchmarks falling makes using inverse ETFs one of the best bear market trading strategies.
3. Bear Markets are Volatile — Trade It
This is relatively new and this downturn could be the first time buying and selling on volatility comes to the forefront of bear market trading.
Perhaps the easiest way to do that is to trade the CBOE Volatility Index, or VIX. But in order to be successful at it, you have to put thought and research into what you “think” will happen in the future.
The VIX estimates how volatile the market will be by aggregating the weighted prices of the S&P 500 puts and calls over a wide range of strike prices.
When the VIX is high, it implies market volatility for the next month — the bigger the score, the more volatility. If the VIX is at 20 or lower, that means average-to-low volatility is expected.
Because markets are always volatile, especially in bear markets, volatility trading is one of the best bear market trading strategies.
There are pros and cons to every strategy and, like with the market itself, there are no guarantees.
Make sure to do your research and pick the one that best suits your needs, skill level, time commitment and pocketbook. Only trade with money you can stand to lose, and these bear market trading strategies can work for you.
Related:
- Bear Market Panic: Stocks Hit Hardest By Coronavirus
- 3 Stocks to Buy in a Bear Market — How to Capitalize When Markets Turn South
- What Is a Bear Market and How Should I Invest When Stocks Sink?
- VIX Volatility Index Hits Highest Level Since Financial Crisis
- It’s a Time For Market Volatility, But Here’s How You Can Be Greedy