How to profit from downward markets and falling prices

What is a bear market?

A bear market is typically defined as a 20% or more decline in a stock index or asset from recent highs, lasting for at least two months. These market phases are driven by investor pessimism, economic downturns, rising interest rates, or geopolitical events. Bear markets are often accompanied by falling corporate earnings and reduced consumer confidence, which intensify the downward momentum.

What are the other types of downward markets?

Aside from bear markets, other forms of declining markets include:

• Market corrections: A short-term drop of 10–20% that can happen even in long-term uptrends.
• Recessions: Broader economic downturns that may or may not coincide with bear markets.
• Sector-specific declines: For example, tech stocks falling while other sectors hold steady.
• Flash crashes: Sudden, sharp drops often driven by algorithmic trading or panic selling.

How to manage your existing positions if the market crashes

Market crashes can test even the most seasoned investors. Here’s how to respond:

• Avoid panic selling: Selling at a loss locks in that loss. Consider whether the downturn is temporary.
• Rebalance your portfolio: Shifting to more stable or defensive assets can help minimise losses.
• Hold quality assets: Focus on companies with strong balance sheets, recurring revenue, and essential products.
• Use stop-loss orders: These can protect positions by automatically selling when a price hits a certain level.
• Maintain liquidity: Keep cash on hand to take advantage of buying opportunities at lower prices.

Bear market investing: how to potentially make money when prices fall

Even when markets are in decline, there are still many ways to earn returns.

Short selling

Short selling involves borrowing a stock and selling it with the expectation of buying it back later at a lower price. If the stock falls, you pocket the difference. While potentially profitable, short selling carries significant risk if the stock price rises instead.

Dealing short ETFs

Inverse or “short” ETFs are designed to move in the opposite direction of an index. For example, if the S&P 500 drops 1%, a short ETF tracking the index could rise 1%. They offer a way to profit in bear markets without direct short selling, though they can underperform over longer timeframes due to daily rebalancing.

Trading safe-haven assets

Safe-haven assets tend to retain or increase in value during market turmoil. Common examples include:

• Gold
• US Treasury bonds
• The US dollar
• Swiss franc or Japanese yen

These assets are favored for their perceived stability and historical performance during bear markets.

Trading currencies

Forex traders can capitalise on falling stock markets by trading currency pairs that strengthen when risk sentiment deteriorates. For instance, during downturns, the USD or JPY often strengthens as investors seek safety.

Going long on defensive stocks

Defensive stocks belong to industries like healthcare, utilities, and consumer staples; sectors that tend to perform steadily even during recessions. These companies offer essential products and services, making their revenues less sensitive to economic cycles.

Choosing high-yielding dividend shares

Dividend stocks can provide a reliable income stream even when capital gains are hard to come by. Companies with consistent dividend payouts tend to be more stable and less volatile, helping investors weather market declines.

Trading options

Options give traders flexible ways to profit from declining prices. Some strategies include:

• Buying puts – Profits when the price of the underlying stock falls.
• Bear put spreads – Combine buying and selling puts to limit risk and cost.
• Covered calls – Generate income from stocks you already own, even in a flat or falling market..

Buying at the bottom

This contrarian approach involves purchasing assets after a significant drop, aiming to capitalise on a rebound. It requires patience, research, and timing. Investors often use technical indicators or historical trends to identify likely bottoms, but it's never an exact science.

How to identify bear markets

Recognising a bear market early can be key to protecting capital or shifting strategy. Watch for:

• Major index drops exceeding 20%
• Falling earnings guidance from major companies
• Sustained pessimism in financial media
• Rising unemployment or slowing GDP
• Inverted yield curves, signaling economic contraction

How often do downward markets occur?

While they may feel rare in booming times, downturns are part of the normal market cycle:

• On average, bear markets occur every 3–5 years.
• The average length is about 9–12 months.
• Some bear markets, like the 2008 financial crisis or 2020 COVID crash, have more dramatic impacts.
• Others are short and quickly reversed.

Being prepared is critical because history shows that downturns are inevitable.

How to make money in stocks

Even in falling markets, the stock market remains a viable way to build wealth long-term. Here's how to position yourself:

Open an account

Whether you trade actively or invest passively, you’ll need a brokerage account to get started. Look for one that offers:

• Competitive fees
• Access to a variety of instruments (stocks, ETFs, options)
• Educational tools for beginners

Pick stock funds instead of individual stocks

Stock mutual funds or exchange-traded funds (ETFs) provide diversification with less risk than picking individual stocks. Index funds that track broad market benchmarks can reduce volatility.

Stay invested with the "buy and hold" strategy

This long-term strategy involves holding investments through market cycles. Despite short-term dips, markets historically recover and grow over time.

Check out dividend-paying stocks

Even when prices fall, dividend-paying companies can offer a stream of income. Reinvesting dividends during downturns can enhance long-term returns through compound growth.

Explore new industries

Bear markets can uncover opportunities in emerging sectors. Look at:

• Renewable energy
• Artificial intelligence
• Cybersecurity
• Healthcare innovation

These industries may benefit from long-term macroeconomic trends despite short-term market stress.

Three investing myths

Let’s clear up some misconceptions that could hurt your decision-making:

• Myth: You can’t make money when markets fall.
  Reality: Short selling, defensive investing, and options trading offer profit potential in any market.
• Myth: Bear markets mean you should stop investing.
  Reality: History shows that downturns can be prime buying opportunities for disciplined investors.
• Myth: Timing the market is easy.
  Reality: Even professionals struggle to perfectly time entries and exits. A diversified, long-term approach tends to outperform.

Disclaimer: FOREX.com Australia is a Contracts for Difference (CFD) issuer and our products are traded off exchange. We do not offer direct ownership of the product and exposure to the assets mentioned is available solely via Contracts for Difference (CFDs). This material relates to the underlying asset and does not constitute a recommendation or offer to trade.