MARKET COMMENT
Being Bearish Hurts Your Pocket

By Stuart Watson (TMFTiger)
December 4, 2003

A little over five years ago, I came across a curious book. It was the first edition of the Motley Fool UK Investment Guide. As it happens, it was the first time I had come across the Motley Fool.

I remember it being a refreshing change from the dry texts you normally get about personal finance and investing. One section that stuck a chord with me was the one about investing mistakes, in particular a warning about not being enduringly bearish.

An acquaintance of mine fits this mould. The market is always just a little too expensive for him. Whenever it falls 10%-15%, he says he will pile in. But of course, he never does. There is always some bad news somewhere and therefore always a reason not to invest. He earns interest in the meantime of course, but not enough to offset to long-term effects of inflation.

In the last year or so, being bearish has become very fashionable on investing discussion boards. Naturally, few bears were around or vocal when the market was at or near its peak. They only seemed to materialise after the bear market had been around for some time and arguably after it stopped growling completely. They comfort themselves by claiming the recent rebound is merely a bear market rally. Maybe it is. I suspect they're merely in denial, not wanting to admit they've missed out on this year's gains. So far this year, if you include dividends, the UK market has produced a rise of around 18%. Which is nice.

Looking at stock market returns for the last century or so, there are probably only around 10 periods when it turned out you'd have been right to be bearish. They lasted from one to three years. Being an occasional bear may pay handsomely, but only a tiny minority will be able to master the art. Get your timing wrong, on either your exit from the market or your re-entry, and much of your bearishness would have been in vain. Here is the real difficultly in being bearish. Spotting overvaluation is the easy bit. Knowing when, or if, any overvaluation will vanish is much harder to call.

I still have a few decades of investing in front of me, so being bearish makes even less sense. I still exercise a little caution, investing less when the market seems stretched by historical standards and more when it would seem to be cheap. But exiting the market altogether is something I suspect I will never do.