The answer to the question of where DO investors put their money and where SHOULD they put their money give two very different answers.
Where DO they put it? The thing about bear (and bull) markets is that you don't know that you are in one until you are pretty deep in one. So, once average investors have figured it out (which could be way more than half way through its cycle), they panic, sell stocks, and go to cash and short term bonds. Some try to seek out uncorrelated assets like certain commodities and real estate. The more reckless ones buy inverse triple-leveraged ETFs, but they are so beyond help, we won't bother addressing them.
This is all futile. Market timing does not work. Don't herd with a crowd that loses money all the time. In the last 30 years, the US stock market has returned an average of 10.35% per year, while the average US investor has made 3.66% per year. The majority of the difference between those two numbers is a result of behavioral mistakes revolving around market timing.
A bearish market is traditionally defined as a period of negative returns in the broader market to the magnitude of between 15-20% or more. During this type of market, most stocks see their share prices fall, often substantially. There are several strategies that are used when investors believe that this market is about to occur or is occurring, which depend on an the investor's risk tolerance, investment time horizon and objectives. (For related reading, see Surviving Bear Country.)
One of the safest strategies, and the most extreme, is to sell all of your investments and either hold cash or invest the proceeds into much more stable financial instruments, such as short-term government bonds. By doing this, an investor can reduce his or her exposure to the stock market and minimize the effects of a bear market.
For investors looking to maintain positions in the stock market, a defensive strategy is usually taken. This type of strategy involves investing in larger companies with strong balance sheets and a long operational history, which are considered to be defensive stocks. The reason for this is that these larger more stable companies tend to be less affected by an overall downturn in the economy or stock market, making their share prices less susceptible to a larger fall. With strong financial positions, including a large cash position to meet ongoing operational expenses, these companies are more likely to survive downturns. These also include companies that service the needs of businesses and consumers, such as food businesses (people still eat even when the economy is in a downturn). On the other hand, it is the riskier companies, such as small growth companies, that are typically avoided because they are less likely to have the financial security that is required to survive downturns.
These are just two of the more common strategies and there is a wide range of other strategies tailored to a bear market. The most important thing is to understand that a bear market is a very difficult one for long investors because most stocks fall over the period, and most strategies can only limit the amount of downside exposure, not eliminate it.
From a logical perspective the perils of attempting to exit the market before it goes down are well documented. However, when asked: What do investors collectively tend to do during a bear market? We see that they often react by pulling money out of the market and flee to shorter term fixed instruments such as money market funds or CD’s. According to the Investment Company Fact Book, during the 2008 downturn investors withdrew $211 billion from mutual funds, while money market funds saw a net increase of $637 billion.
Reacting during a bear market can often be detrimental to long-term portfolio growth, especially during periods like the relatively short 17-month bear market from October of 2007 to March of 2009.
Many retail investors will actually stay put because they have been told "you can't time the market." Many will finally say Uncle when they reach their pain threshold. Every bear market is slightly different. In 2008, the place to be was treasury bonds, gold, cash, and shorts using inverse exchange traded funds (ETFs) betting the market will go down.
But if you rely on some type of technical indicators, cash is the most conservative, simply covering up until the dust settles. Investment grade bonds and treasuries historically have been a safe haven. But with interest rates likely on the rise, it won't be so certain this time and the bubble may actually be in bonds. They are currently already off between -5% to -7% depending upon the bond sector. But using short selling ETFs are a simple, elegant way to either make money or simply hedge your long positions you don't want to sell. This can also be owned inside an IRA or retirement account whereas shorting individual stocks cannot. You also don't have to worry about margin interest or margin calls.
I personally will use a combination of cash, short term bonds, and short selling ETFs. I will also consider gold depending upon how it is acting at the time.
Hope this helps. Happy Holidays, Dan Stewart CFA®
In bear markets, meaning markets in which prices are declining, many investors tend to run away in fear. Rather than purchasing stocks that are now "on sale," they lack the courage to invest. During market downturns, whether it be in the US stock market, non-US stock markets, real estate, commodities, etc., successful investors remember the mantra "buy low, sell high." Thus, during bear markets, successful long-term investors are buying, not selling. They are investing in mutual funds that have been beat up.