Don't Rush Into the Bear Camp

John Hussman, a mutual fund manager, writes a weekly commentary that is a must-read for me.

He has been very skeptical of the market's ability to advance, based on a tremendous amount of research on valuations and market behavior. He is concerned that a large correction is inevitable, and I generally agree with that conclusion.

However, as a consequence of his recent bearishness, his funds -- the Hussman Strategic Growth Fund and the Hussman Total Return -- have lagged behind the broader market for the past few months.

I'm not picking on him, as everyone lags behind the market sometimes. But assuming he is right, the market is overvalued and a big correction/bear market is in the offing. What should you do?

No Need for Urgency

Hussman notes that in bear markets, we lose roughly half the gain that occurs during the bull phase. Given the past few real bear markets, this sounds about right. The S&P 500 was cut in half at the beginning of this decade, as it was during the 1970s.

But as a matter of philosophy, I don't want to make big bets in advance of the next bear market, as I believe Hussman has done. Bear markets start slowly and take months to unwind. For investors who take a long-term view, there's no urgency to guess when the next bear market might start. Six months after the March 2000 peak, the S&P 500 was only down 10%. Six months after the February 1973 peak, the market was down 17%, which sounds like a lot, but this was on the way to an eventual 50% decline.

We've all heard that the market averages a 10%-to-11% gain per year. Well, that includes all the great years, the lousy ones and the average ones. If you buy and hold for 40 years, you will probably average 10% or 11%. If you can avoid a chunk of just one bear market in your lifetime -- and that does not mean nailing the exact top and bottom -- your average annual returns would be higher than average.

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At the time of publication, Nusbaum had no positions in the stocks mentioned, although positions may change at any time.

Roger Nusbaum is a portfolio manager with Your Source Financial of Phoenix, and the author of Random Roger's Big Picture Blog. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Nusbaum appreciates your feedback; click here to send him an email.