Why it's risky to sell now

It sounds counterintuitive, but it may actually be riskier to sell now than to stay fully invested. This would be true even if the bear market still has many months to go. Why? Because of bear market (or “countertrend”) rallies, which tend to be both rapid and powerful. They also tend to be unexpected, seemingly coming out of nowhere when both news and sentiment are terrible. Kind of like now.

How powerful are these rallies? Very. Look at Japan since 1989, when its stock market last peaked. Since then, it’s been in a secular downtrend that’s lasted 19 years so far. There have been 7 countertrend rallies during that time, ranging from +21% to +135%, with a median gain of +48%. On average, 1/5 of that gain came in the first 5 days, so its pretty hard to just jump in when it starts. Each one lasted several weeks to a many months.

The picture in the US is similar. During the secular bear markets of 1929–1938, 1966–1980 and 2000–today, there have been 8 countertrend rallies. They median gain was +67%, even better than in Japan, with 1/5 of the rise coming in the first 13 days.

So big rallies do happen during extended bear markets, and we have yet to have one since the current downtrend began in late 2007. When it finally arrives, suddenly and without warning, it should be impressive. The question at that point will be: Is this a countertrend rally or a new bull market?

Unfortunately, it’s usually almost impossible to tell until well after the fact. But fortunately, it really doesn’t matter for most investors. If you are invested for the long term, you should stay that way during and after the rally. If you need to reduce the risk level of your portfolio, you’ll want to cut back on your equity holdings after they’ve recovered somewhat regardless of what you think the future holds. This is good, since the future is ultimately unknowable. The only thing I know for sure is that it won’t look like the past.