DEFINITION of 'Bear Tack'

A decline in the price of a stock, sector or market that may be a harbinger of a bearish trend. A bear tack suggests that the asset or market could be in for a significant price correction. However, it does not mean that the asset or market will slump into an official bear market, which is defined as a price decline of 20% or more. The term “tack” is derived from the lexicon of sailing, and means a maneuver in which a sailboat turns its bow to put the wind on the opposite side of the vessel. Likewise, bear tack has come to mean a change in the price movement of an asset or market to lower levels.

BREAKING DOWN 'Bear Tack'

A bear tack may indicate a short-lived, temporary price decline or a longer-lasting price plunge. Just as a sailboat may have to change tack several times to stay on course as the wind shifts, investors need to position their portfolios to navigate choppy markets and stay on track to meet their investment portfolio goals.

A bear tack should be especially heeded when it comes after a prolonged advance period, since it may signal a big shift in investor sentiment. This is particularly true if the economic environment has been deteriorating, in the case of financial markets, or fundamentals have been worsening, in the case of sectors or stocks.

For example, investors who heeded the bear tack after the S&P 500 and Dow Jones Industrial Average hit record highs in October 2007 would have saved themselves a packet, since these equity indexes subsequently proceeded to lose more than half their value over the next 18 months. The global credit crisis was just unfolding in October 2007, and although few could have predicted the scale of the carnage that followed, heeding the warning signs of the bear tack – evidenced by the 5% slide in the indices within two weeks of reaching their highs – would have been a prudent course of action in retrospect.

Likewise, for a stock, a bear tack may be a decline on an earnings miss after it has recently set a new record high. The earnings miss may indicate that profit expectations have been ratcheted too high and further misses may be in store.

Reaction to a bear tack depends on whether the investor follows an active or passive investing style. While the active investor may take proactive steps such as taking profits on certain positions and/or initiating hedges to mitigate downside risk, the passive investor may prefer to ride out the decline as a normal part of the market cycle.

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