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Even when the stock market is moving in an overall negative pattern, it’s normal to see short periods when equities, options and other assets rise in price. 

A bear market rally is a temporary period of positive price movement in an overall bearish market environment. While a bear market rally can present some valuable opportunities for investors, it can also be dangerous if identified incorrectly. 

Read on to learn more about bear market rallies, their causes and how to take advantage of them. 

What is a bear market rally?

Before we discuss the bear market rally definition, it’s important to understand the difference between the terms “bull market” and “bear market.” The terms describe opposite market movement directions. A bull market is when the overall market experiences a sustained upward trend. 

During a bull market, stock prices generally rise, investor confidence is high and economic indicators are positive. Inflation and unemployment rates are also comparatively lower when compared to bear markets. 

In contrast, a bear market is when the overall market experiences a sustained downward trend. During a bear market, stock prices decline and investor confidence is low. As a result of this low confidence, investors tend to put money into alternative assets that retain value during periods of uncertainty. Unemployment rates rise during bear markets, which leads to lower consumer spending. 

It’s easy to remember the terms “bull” and “bear” regarding market movement if you consider how these animals move. When a bull attacks, it charges and swings its horns upward. In the same way, market movements tend to trend upwards in bull markets. When visualizing a bear market, imagine the animal standing on its hind legs and attacking its prey by swinging downward. This represents the overall downtrend that assets show during these periods. 

A bear market rally is a short burst of bull market-like activity in the middle of an overall negative market environment. The official rally definition is “a period of sustained increases in the prices of stocks, bonds or indexes,” but it does not indicate that it must occur during a particular type of market. Bear market rallies can be dangerous for investors, as they may create a hope trap that the bear market is over. This leads to losses when the rally ends. 

How does a bear market rally occur?

A bear market rally occurs when a positive hope spot exists in an overall bear market. While the inciting incident for the bear rally will likely indicate genuine positive economic sentiment, it is short-lived. As a result, the sharp upturn in investment values is temporary, with gains erasing when the market corrects. 

Some examples of triggers that could cause a bear rally to occur can include: 

  • Government stimulus announcements 
  • Positive reports on inflation, interest rates, Federal Reserve actions or major corporate profits 
  • An increase in short-selling or other short-term trading strategies that can artificially increase demand for certain types of investments 
  • Technical indicators that encourage “bargain hunting”

Remember that the bear market rally meaning and definition necessitates an eventual correction. It can be nearly impossible to differentiate between the end of a bear market and a temporary rally while it is occurring, making these rallies risky for investors. 

Examples of bear market rallies in history 

A classic example of a bear market rally occurred during the COVID-19 pandemic. COVID-19 had a major effect on all world markets, with effects still being seen in today’s economy. In March 2022, a report from the World Health Organization found that “between the end of January and early March 2022, there was a consistent decreasing trend in the number of new COVID-19 cases.” This report fueled a sharp, quick increase in overall market performance, as it came after weeks of consistently negative COVID news. Investors can see this rally illustrated in the chart of the Invesco QQQ ETF NASDAQ: QQQ.

Unfortunately, shortly after this report was released, COVID-19 diagnostics took a turn for the worse. Following the report, worldwide COVID cases increased for two consecutive weeks. A change in the definition of COVID-related deaths also caused the total death count to surge by more than 40%. These bleak reports erased the gains from the initial COVID-19 report, creating a continuous downtrend in major indices like the Dow Jones Industrial Average and Nasdaq Composite until July 2022. 

What does a bear market rally mean for investors?

Long-term investors might feel pressure to buy stocks  during a bear market rally — but keep your overall investment goals in mind. First, look at your portfolio concentrations and how they have shifted during the rally. Suppose your portfolio concentration is now too heavily concentrated in one area that’s seeing a rally. In that case, you might consider shifting some assets to other types of stocks or ETFs that are not rallying. 

Some investors may see a bear rally as an opportunity to take profits or exit positions that have rebounded temporarily. If you believe the overall market trend will continue to be bearish, you might sell stocks or other investments during the rally to lock in gains before prices potentially decline again. This can be useful if you’ve invested in companies you no longer see as long-term value options

Remember that the bear market bounce meaning necessitates a market correction. It can be difficult to tell the difference between the end of a bear market and a bear market bounce while it’s occurring. If you ask yourself, “Is this a bear market rally or is the stock market recovering?” without a sure answer, it can be better to avoid timing the market and stick to your long-term strategy

Market indicators for identifying bear market rallies

Traders with short time horizons often depend on technical indicators like moving averages, momentum oscillators and other tools to analyze price data. Technical analysis can play an essential role in identifying bear market rallies since these often have different underlying numbers than actual ‘new bull market’ rallies.

If the bear market official definition is a 20% price decline, momentum indicators can be used to separate meaningful paradigm shifts from bear market rallies. Suppose a stock fell from $100 to $70 due to poor earnings guidance. A quick rally follows to bring the price back to $80, but stalls at the 50-day moving average. In this scenario, the 50-day MA could act as resistance, and the price will retreat from this area. Oscillators like RSI or MACD could be used to confirm this hypothesis and shrewd investors may short the stock back to $70 based on these inputs.

Psychological factors driving bear market rallies

Despite the rise of algorithmic and automated trading systems, human emotions still play a prominent role in market sentiment. Money is an emotional topic, which is why so many traders, investors and finance experts preach patience and a rules-based system. But even the wealthiest and most seasoned market pros still let emotions get the better of them occasionally (just look at the Icahn vs Ackman feud for evidence of that).

How can investor sentiment and psychology move markets? Just look at the meme stocks! Companies like GameStop Corp. NYSE: GME and AMC Entertainment Holdings Inc. NYSE: AMC have seen their underlying businesses deteriorate significantly over the last few years and the accompanying stocks have been in prolonged bear markets since the January 2021 meme stock craze. But despite these factors, both GME and AMC have seen monstrous bear market rallies throughout 2022 and 2023 thanks to social media sentiment that brings both retail and sophisticated investors into the market for these shares.

What does a bear market rally mean for traders? 

A bear market can have both challenges and opportunities for more active traders. Active traders (like scalpers and day traders) can potentially use the upswing of a bear market rally to unload assets they believe are less likely to recover in value when the bear market concludes. This can be a valuable opportunity to minimize losses and realize gains on previously valueless options contracts

Risks and opportunities in bear market rallies

Falling stock prices mean different things to different types of investors. Young investors with extended time horizons can become bargain hunters since they can wait out any long period bear market. But a bear market rally is volatile if you have a shorter time horizon, and profits (and losses) can be magnified.

During a bear market rally, different asset classes can produce significant gains that may trick investors into believing a market bottom has been reached and a new bull market is commencing. If you’re a short-term trader, monitoring technical indicators for insight into the momentum behind the rally is crucial. Bear market rallies can be good opportunities for traders to exit poorly performing positions or bet against certain asset classes that are overperforming.

Strategies for investors during bear market rallies

Depending on your risk tolerance and investing proficiency, there are a couple of different strategies to consider during a bear market rally. The first is to simply stay the course and continue dollar cost averaging into your preferred asset classes. Adjust your asset allocation as needed, but continue investing toward your long-term goals.

If you want to trade during a bear market rally (or at least protect your position), strategies involving options are used in conjunction with common stocks. One popular bear market investing technique is the covered call, where you sell a call option on a stock you already own. 

For example, if you own 100 shares of QQQ and you expect the stock to stay range-bound or decline over the next 3 months, you might sell a QQQ call option with an expiration 90 days out. If the stock doesn’t surpass the option strike price within 90 days, you pocket the premium. If QQQ does rally to the strike price, you have the shares in your brokerage account to “cover” the possibility of the option being exercised.

How to invest or trade in a bear market rally

Investing during a bear market rally can be an opportunity to enhance your portfolio, eliminate stocks that no longer serve your goals and take profits. Use the following steps to start trading or investing during a bear market rally. 

Step 1: Consider your investing goals.

Before you think about trading during a bear market rally, it’s important to think about your investment and trading goals in light of the overall market. If the stock market has been stuck in a bearish trend for weeks or even months, it can be tempting to use a rally to exit positions due to fear of further losses. However, it’s important to remember that no bear market lasts forever — it can often be better for long-term investors to ride out the bear market rally rather than attempt to time the market. 

If you’re a short-term trader who earns money making more frequent trades, a bear market rally can present a profit-taking opportunity. Start by taking stock of your current positions and consider which might be worth exiting. You can also look at the value of any options contracts you hold to see if they’re worth cashing out of. 

Step 2: Identify the cause of the rally.

If you’re a short-term trader who has decided to take advantage of a bear rally in the stock market, it’s important to be sure that we’re actually in a rally and not the end of the bear market. If the bear market is over and the price increase is not a temporary market movement, you could take profits too early. 

Look at recent stock market news and identify what you believe is causing the current rally. If you don’t have a reliable total market news feed, MarketBeat’s live stock feed can be an ideal resource. Read a few major news stories and confirm that the rally is a rally before executing your trade. 

Step 3: Take profits.

Traders actively taking profits during a bear market rally will want to use the right type of order. If you’re selling an asset showing exceptional volatility during a rally, using a market order to sell at the best possible price can be useful. If the rally is less active, a limit order will ensure that prices don’t drop significantly by the time your broker can complete the sell order. 

Example of using a bear rally to your advantage

Let’s look at an example of a bear market rally that occurred in the past and how an investor might have used it to their advantage. 

Apple Inc. NASDAQ: AAPL stock saw a temporary bear rally on September 8, 2022. When Apple’s stock was on a negative downtrend, pricing spiked from about $154 a share to a high price of $163 before plummeting to an average price of $150 in the coming weeks. 

Imagine that you were a short-term trader during this period holding 100 shares of Apple stock. You notice this rally and believe that prices will continue to fall once the rally is over. You sell your shares at $160 a share, taking $16,000 from the trade. 

Following the buy order, Apple’s share prices fell to $150. Using this opportunity, you purchase back your original 100 shares for a total spend of $15,000. This trade allowed you to retain your original shares while capitalizing on the rally by taking a profit of $1,000. 

Should you take advantage of a bear market rally? 

Trading during a bear market rally is part of a larger overall series of strategies collectively called “timing the market.” Timing the market involves deciding to enter or exit the market to buy at the lowest prices and sell at the highest. For example, an active trader who believes we are in an active bear rally might sell assets they want to buy back later at a lower price, assuming the market will correct and provide this opportunity.

Timing the market can be exceptionally challenging, especially for new investors. The longest bear market in history lasted more than 900 days, with multiple rallies occurring in the midst of it. Suppose you aren’t experienced with entering and exiting the market strategically based on news or world events. In that case, consider testing your trading strategy with a demo market account before risking your capital. 

FAQs

Still have some last-minute questions about what is a bear market bounce and how you can use it? The following are some summaries of common questions you may still have. 

What happens in a bear market rally?

A bear market rally is a short, swift increase in overall market performance and asset prices amid a bear market. By definition, the rally is only temporary; asset prices and market performance will return to the bearish trend when the rally is over. This can be dangerous for investors, who might mistake the rally for the conclusion of the bear market. 

How long do bear market rallies last? 

Bear market rallies can range from a few days to several weeks or even last a few months, depending on specific economic circumstances and causes surrounding the rally. Some bear market rallies may be relatively short-lived, lasting only a few days due to short-covering or temporary positive news events, like falling inflation or cuts to interest rates. Others may extend for a longer period, especially if significant policy interventions or positive market developments temporarily alleviate investor concerns.

What is a bear market rally vs. bull market rally?

A bear market rally and a bull market rally are two types of positive price movements. A bear market rally is a temporary price surge during an overall bear market. A bull market rally is an unusually positive price trend during a bullish market. 

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