How to Invest in a Bull Market

A bull market is a rising market increasing by at least 20% from a bottom. Bull markets are times of prosperity and tend to last much longer than their counterparts, the bear markets. So learn to discern a bull market cycle and invest accordingly to help you thrive in a bull market.

EditSteps

1. 1
   Prepare for a bull market when prices are still falling during a bear market. Because bear markets are invariably followed by bull markets, it is important to raise cash and keep a handy wish list of stocks with target prices to buy, before a bull market begins. Bull markets tend to begin abruptly when things appear gloomiest, prices are in free fall, with no light at the end of the tunnel. When fear, pessimism, and pain reach their maximum, a bottom is reached, and a bull market begins. Here are things you can do to prepare for the birth of a bull market:
   
   
   • Save as much as you can. Cut down your discretionary spending, and raise as much cash as possible.
   • Sell bonds and other fixed income investments, so you can take advantage of the high returns of stocks in a bull market.
   • Sell gold when the Dow/gold ratio is well below the historic average of around 20:1.
   • Have plenty of cash deposited into a stock brokerage account, so you are ready to buy stocks once the bear market ends and a bull market begins.
   • Watch for a bull market to begin in the depth of a recession, when everything is still in free fall, and the economic outlook appears the darkest. If you wait till a recession is officially over, you would most likely miss a great portion of the bull market's gains.
2. 2
   Early in a bull market, when prices have just started to bounce back from the bottom, buy all kinds of stocks, but preferentially load up on the ones that have fallen the most during the bear market, typically the lower quality, cyclical stocks (such as Alcoa and Dow Chemicals). Lower quality stocks tend to have higher debt and lower margins and cyclical stocks are dependent on the business cycle, so they tend to be hardest hit in a recession, and will bounce back dramatically when the recession ends. Load up in stocks that belong to the hardest hit industries and sectors during the bear market, for example, the financial sector in 2008 and 1991. Likewise, focus on the hardest hit investment styles. If small cap stocks have fallen more than large cap stocks, buy small caps. If international stocks have fallen more than domestic stocks, buy international stocks. If value stocks have fallen more than growth stocks, buy value stocks. During the early phase of a bull market, only a few forward looking investors will believe things will get better and are willing to take new positions. As the outlook turns just a little less depressing, the market will start to move up from the bargain hunting.
3. 3
   Keep buying stocks and hold onto your positions as the bull market continues to rise, transitioning from early to mid phase. During the mid phase of a bull market, the economic outlook remains poor, but it will gradually seem less poor. Investors will begin to realise that improvement is taking place, and they will bid stocks up to their fair values. Fear of "double dip" will continue to keep prices in check from time to time, and a sizable minority will remain skeptical of the rally. The mid phase is usually the longest phase of a bull market and can last for many years. As long as skepticism in the market's recovery remains, the bull market will continue to rise, so be sure to hold on tight onto your positions.
4. 4
   As the bull market continues to rise during the mid phase, shift your focus more on high quality stocks and begin to pare down or sell the lower quality stocks to make room for higher quality ones. As the bull market matures, risk increases along with asset prices, and the hardest hit stocks tend to recover a lot more than higher quality ones (often lower quality stocks will go up by 300-400% when higher quality stocks go up by only 50-100%). As stocks prices go up, risk increases, so you should dial down risk by emphasising more on more on quality.
5. 5
   Know that when everyone finally concludes things will get better forever, the bull market has now transitioned from mid to late phase. At this point, euphoria sets in, and essentially all remaining bears turns bullish. As everyone is cheered by the improvement in the economic and corporate results, they will become willing to extrapolate it. Expressions like "new era", "new paradigm", "permanently high plateau", and "end of the business cycle" will be rampant. Parodoxically, future P/E may be low, based on overly optimistic projections for the next 12-month earnings. (Trailing P/E and P/E calculated based on averaged earnings over past 3, 5 or 10 years are always high, usually above 20, toward the late phase of the bull market.) Regret and greed become powerful forces, as the masses become jealous of the profits made by investors who were early, and they want in.
6. 6
   When everyone wants to buy, sell. Sell all the lower quality and cyclical stocks, if you have not already. Hold onto the highest quality defensive stocks if you are a long term investor.
7. 7
   Raise cash and get ready for the end of the bull market, to buy again during the next bear market. Hold off buying when the overall stock market has become irrationally exuberant, and remember that the next bear market is just around the corner.

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EditTips

• Don't be discouraged if prices continue to go up after you sold during the late phase of a bull market. It is far better to sell too early, then to have your profits turn into losses in the subsequent bear market. As the tech bubble during the late 1990s and its subsequent bust in 2000-2002 demonstrated, prices can remain irrational for a long time, but eventually reality will take hold. In the short term, the stock market is a voting machine, but the long term, it is a weighing machine.
• The most important thing to do in a bull market is to hold. Don't sell your positions too quickly for a small profit; wait until everyone is finally on board and the economic outlook appears rosy.
• High quality stocks are those that are prominent and conservatively financed, with no EPS deficits in any of the past ten years, have paid conservative dividends for at least 15-20 years, have low debt to equity ratio less than 1, ROE >15%, and consistent EPS growth. Low quality stocks are the ones that do not fit these criteria.
• Defensive stocks are typically those in the Consumer Staples, Healthcare, and Utilities sectors; cyclical stocks are typically those in the Materials, Industrials, and Financial sectors.
• If you are aggressive, buy stocks on margin and buy stock options during the early and mid phase of the bull market, and short initial public offers (IPOs) toward the mid to late phase of the bull market.
• Sell short leveraged inverse ETFs.
• If you afraid to buy individual low quality stocks during the early phase of the bull market, just buy ETFs in the hardest hit sectors. You need not fear, however, to buy individual stocks, if you diversify and buy at low enough prices.
• If you prefer mutual funds instead of individual stocks, that is okay. Whatever you do, just be sure to buy and hold in a bull market, and shift focus from low to high quality as the bull market cycle matures.

EditWarnings

• Avoid IPOs like the plague. Entrepreneurs time their IPOs at the peak of the business cycle, to take advantage of investor euphoria to raise as much cash for themselves as possible. As a bull market matures, more and more IPOs gets thrown upon the public, and the quality gets poorer and poorer toward the end of the bull market. I.e. IPOs with unproven business model and no consistent earnings (or even losses) are thrown onto the public. Many of these will go bust when the times of prosperity slows.
• Make sure to get completely out of low quality stocks once the bull market has reached the late phase. One of the biggest mistakes investors make is buying poor quality stocks during times of favourable market conditions. Avoid the temptations of trying to find cheap stocks when the overall stock market is overvalued and ending up with value traps that will lose big when market conditions turns sour again.