By almost all measures, this recent stock market decline has been (and still is) challenging even for the most seasoned long term investor.

With the relentless pounding of negative, agenda-driven news spewing from the mass media, it will be nothing short of a miracle if you journey through this part of the cycle unaffected emotionally, financially or otherwise. Since the media coverage is everywhere you turn, it can really shape how you think and feel…if you let it. Please refuse to fall victim to this.

In my July article, I basically summarized the vulnerability of oil prices, the fact that the economy was still in good shape and the stock market was entering into (or already in) another one of its normal, healthy, necessary cyclical declines before it resumes its permanent uptrend, whenever that might be. All of this was correct until the global credit system seized up taking several household names with it…Lehman went bankrupt, Merrill Lynch was sold and Wachovia was on the ropes, just to name of few. As I am writing this (November 22/23 weekend), time appears to be running out for General Motors and the rest of the auto sector unless the government of the day constructs a bailout package as they just did with Citigroup. No economy, above all the American economy - which is considered the deepest, most entrepreneurial, most flexible and most resilient in the world - was able to with stand that kind of assault.

Fast forward to now. From where I sit, the conversations I have had with the families I serve over the last four months and the role I play as their Financial Advisor, I feel yours and their angst. So, the purpose of this article is to provide you a much needed (and over due) dose of long term perspective, one you can turn to read repeatedly, if necessary.

It pertains to the fundamental characteristics of all bear markets.

Since these characteristics are based on the premise of what a bear market really is, I must first take the time to define a bear market, at least in terms which make sense to me. Please pay special attention to the second definition.

• Traditional version – It’s a period of time during which common stocks are returned to their rightful owners. Much wealth is created in times like these—just ask Warren Buffet, arguably the most famous money manager of our time, or more to your and my level, anyone continually dollar cost averaging or adding additional capital at every opportunity they can.
• And the one that resonates with me the most – It’s a period of time during which people who think this time is different sell their common stocks - at panic prices which will never be seen again - to people who understand that this time is never different. You might want to reread this one several times.

There is clearly a cemented view by many that something new, different and overwhelmingly worse is happening where old truths and timeliness investing concepts no longer apply. Those that carry this belief are prone to panic which, if acted upon, can cause irreparable damage to one’s long term investment and financial goals.

I have personally experienced five market declines in my career, which means I personally missed the previous eight, thirteen in total, dating all the way back to the end of the Second World War. Each one carries its own unique terrors giving the lasting impression that it’s different this time. Yet, if one is able to step back far enough from the noise, one may come to the same conclusion as I have - all bear markets are fundamentally the same.

Here are four fundamental characteristics of all bear markets I have learned:

• Bear Markets are a very natural organic process that permanently exists inside a never ending cycle. We know, based on history, that over the medium to long term stock markets ultimately reflect economic fundamentals temporarily interrupted by irrational behaviour lasting no more than a year or two. After all, we are a very emotional species. Since we human beings are the cause of all economic activity, economies will invariably cycle above and below their trend line, in many instances way overshooting the trend lines through expansions like the one we recently experienced thanks in large part to easy and cheap credit (2003 to 2007) and contractions like the one we are currently experiencing due to the credit bubble bursting. If our collective behaviour contributes to these economic swings, then it only makes sense it applies to the capital markets as well. Therefore, in order for that trend line to remain intact, it only stands to reason that, at some point, the capital markets must rise above it and remain there till the trend line reverts back to its historical mean.

• Bear Markets are as regular as the common cold. As I mentioned earlier, this is the thirteenth bear market over the previous sixty three years, an average of one every five years. Even though this one seemed to occur right on cue, such regularity is rare. For those working over say a thirty to forty year career, they will experience six to eight of them and over the course of their retirement, another six. You read that right, six. For most of us, our investment time horizon is much longer than we think since we are living well into our eighties and nineties. Therefore, we may as well get used to them. Further, since it’s consistently impossible to time when they begin or end, it’s much better if we develop the necessary emotional maturity and financial discipline to remain invested through them. Peter Lynch, arguably one of the more prolific money managers of our time has stated “more money has been lost by people trying to anticipate and avoid bear markets than in all the bear markets themselves”. Said another way, the only way to protect your long term investment capital is by leaving it in the equity market, thereby keeping it exposed to the healing power of time, the resilience of the North American and global economies and the stock markets that reflect them. Let me conclude this point with eight words which have always served me well in times like these –the declines are temporary, the advance is permanent.

• A Bear Market is always the temporary interruption in a permanent uptrend. Each bear market is followed by a bull market which is followed by a bear market which is then followed by a bull market...you get the idea. It’s like night follows day follows night follows day. Historically, bear markets last on average fifteen or sixteen months. That means over a five year or sixty month period, the market is going sideways to up the rest of the time. As well, over the long term the highs surpass the previous highs and even the lows end up being higher than the previous lows. Some of you have asked me how long it might take before we reach new highs again. The truth is no one really knows. Since what you are really asking me is to get out my crystal ball let’s go back for a moment in history and see what it tells us….declines of similar percentages to this one and there were five of them - 1906, 1919, 1929, 1973 and 2000 – took anywhere from three to twenty two years to return to their peak levels excluding dividends, the latter time period being the great depression of course. As well, from 1956, the average recovery time from the market bottom to its previous high is two and three quarter years. So you can see a) markets have come back to make higher highs and b) it’s more than likely it can occur within your investment time horizon. However, these stats are provided with the idea that what you paid for your investments matter. It’s irrelevant. The only thing that matters from this moment forward is which asset class – cash, bonds or equities (in the form of common shares) – are going to deliver the highest returns over an extended period of time, say ten years. Yesterday, a ten year government of Canada bond was yielding 3.50%! Up against the historical averages of equity returns I’ll invest in equities every time. To add history further into the mix where it really makes a difference, try this one on for size – where there has a been a ten year period where the returns are at levels we are currently experiencing (occurring five times over the last 181 years in the American market) the equity returns for the next ten years were somewhere in the range of 15% to 20%. While there is no guarantee history will repeat itself, it’s all we have as a guide to the future.

• Premium returns are directly related to volatility from equities. Most people associate volatility with down markets. In fact, it really applies to both up and down markets and speaks to their extreme unpredictable behaviour in the short term. In today’s market environment, volatility is completely off the charts. To state the obvious, there is just no way of knowing what the markets will do from one period of time to the next. In essence, the returns you receive from equities are the price you pay for never knowing the unknown which in the end gives you a return twice that of bonds and…when you back out inflation, three to four times more. Volatility is then your friend because without it you will experience much less returns.

That’s all sounds great, but is there no way to defend the equity portion of our portfolio against these horrific declines like the one we are experiencing? Is there no formula or reliable strategy for taking our capital out of harm’s way? The straight answer is…no.

There is simply no way of knowing when market corrections turn into nasty bear markets and when they have run their course. If we all knew that we’d all be billionaires. All we know is that bear markets are irregular and short lived while bull markets are powerful and long lasting.

So yes, we are in a crisis that can easily be mistaken for a nightmare, both financially and economically, one that will surely come to an end. And when it does the capital markets will have already moved to higher levels long after the mass media will continue to report yesterday’s economic news. Regardless, there is no way of knowing how it’s going to end or even when it will end and the universality of panic can never be right for long. I am, however, highly confident it will end. As a long term investor that is all I really need to know.
So what to do?

Richardson Partners Financial is a member of CIPF.