How to Identify the Early Signs of a Bull Market

When do you know it’s the Diwali season? People start cleaning their homes, markets are filled with decor items and lanterns, shops promote offers, and people carry a different zeal as the festival approaches. Every event has an early indicator that marks the start of something. Similarly, the stock market and economy indicate the start of both bull and bear markets. In this article, let’s understand the early signs of the bull market.

What is a bull market?

A bull market is when financial markets experience rising prices, especially in equities, with stock exchanges seeing growth of 20% or more in trade volume. This trend reflects overall optimism, with expectations of further price increases. While commonly linked to the stock market, a bull market can also refer to rising bonds, real estate, currencies, and commodities prices.

During a bull market, prices of securities like stocks or other financial instruments typically increase steadily over months or even years. One notable example of a bull market in India, known as “The Big Bull Run,” occurred in the early 1990s, driven by stockbroker Harshad Mehta.

The reasons why a bull market occurs are-

• Strength of an Economy

A bull market thrives in countries with solid policies and effective implementation. These policies support the production of goods and services, and favorable market conditions boost sales.

• Foundation of Large-cap Companies

Large-cap companies are key players in major stock indices, reflecting whether the market is bull or bear. Unlike small and mid-cap companies, large-cap stocks are less affected by random fluctuations, giving a clearer picture of market trends.

• Business Cycle Fluctuations

During an economic boom, the economy grows rapidly, as seen in rising GDP rates and bullish market trends. Low unemployment and increasing per capita income mean more spending power, which fuels speculative demand and signals a bull market.

Stages of a Bull Market

During the price rise, the stock market goes through the following phases-

1. Accumulation Phase: This initial stage is often marked by widespread pessimism. Investors start to buy stocks at these lower levels despite ongoing concerns about the market. Relatively stable or slightly rising prices characterize this phase amidst market uncertainty.
2. Public Participation Phase: As confidence in the market grows, more investors participate. Stock prices start to rise more noticeably, and market sentiment turns positive. This phase then sees increased trading volumes and greater public interest in the market.
3. Excess Phase: At this stage, enthusiasm reaches its peak. Investors become overly optimistic, pushing stock prices higher than their intrinsic value. This phase is marked by rapid price increases and high trading volumes, often leading to stock overvaluation.

Key Indicators of a Bull Market

1. Market Rally:

A sustained upward movement in stock prices strongly indicates a bull market. Look for periods when the market consistently trends higher over at least two months, with stock prices increasing by 20% or more. Lower interest rates and increased government spending on infrastructure and public projects can drive this.

2. Volatility Index:

The volatility index, such as the NIFTY index option prices in India, can signal market conditions. During a bull market, you might see higher volatility as investors react to rising prices and changing economic conditions.

3. Lower Bond Yields:

When bond yields are low, investors often turn their attention to equities, pushing stock prices higher. Cheaper borrowing costs due to lower interest rates can help businesses grow, which can lift stock prices.

How to invest in a bull market?

Investing in bull markets offers a great chance to grow your wealth. It’s the perfect time to buy stocks early and sell them at higher prices as the market rises. Here’s how you can harness the opportunity of a bull market:

• Evaluate Personal Goals: Start by assessing your goals and considering your age and risk tolerance. What worked for you when you were 30 might not suit you as a 40-year-old investor. This helps in choosing the right investments.
• Take Long Positions: Buy stocks at a lower price and sell when they rise. This strategy works well in a bull market where prices are expected to increase. Buy and hold till the power of compounding and the bull market increase the value of your investments.
• Invest in Strong Companies: Focus on companies with solid growth records. Look at the demand for their products, as well as their sales and earnings.
• Buy Fallen Stocks: You can buy lower-priced stocks during a bear market. However, invest in companies with growth potential during this phase, as they can pay off during a bull market.
• Diversify Your Portfolio: To manage risk, in addition to allocating funds to stocks, spread your investments across different non-equity products like bonds and savings accounts.
• Invest Across Various Industries: Pick stocks from different sectors, especially those likely to benefit when the economy improves, like housing, technology, and industrial equipment.

Conclusion:

Remember that the bull market is only a phase followed by a recession or market correction period. It is not sustainable, and therefore, you must stay informed on market trends and economic conditions to avoid speculative trades and market bubbles during a bull market.

FAQs:

1. For how long can a bull market be active?

Bull markets can last for varying lengths of time. Sometimes, they might last just a few months; other times, they can go on for years. Predicting exactly how long a bull market will last is tough because even historical data doesn’t always help forecast future trends accurately.

2. How does a bull market end?

A bull market often ends when investors start believing it’s running out of steam, leading to fewer buyers and eventually causing the market to decline. Sometimes, unexpected economic events can also trigger the end of a bull market. For instance, when the coronavirus pandemic was declared, markets worldwide plunged rapidly, with Sensex and Nifty hitting four-year lows on March 23, 2020.