HOW TO HANDLE A BEAR MARKET

There’s a reason bear markets are often referred to as panics. This one may turn out to be short, but no one can say it hasn’t been severe. The worst thing you can do, though, is panic. It’s impossible to escape human nature in this turbulent time, but you can take steps to make sure that the decisions you make now don’t do long-term damage to your portfolio.

First, realize that the stock market is a dynamic, psychological entity. Sure, prices may be rational over time, but in the short term, they’re driven by fear and greed. If bull markets are steered by optimism and euphoria, bear markets are marked by panic and, finally, capitulation — the selling crescendo that washes out the last remaining optimists and sets the stage for the next bull cycle.

Do recent rallies signal the end of the bear? That’s hard to say. But reaching a bear market bottom is a process that could well test the market’s lows and maybe even find new ones before the next cycle begins.

While this process plays out, be aware of your own psychological biases. “In everyday life, we have a set of shortcuts to help us make quick and, often, very good decisions,” says Steve Wendel, head of behavioral science for Morningstar. “In times like these, those normal rules don’t apply and can lead us astray.”

Consider the tendency to take action in times of turmoil. It feels unnatural to do nothing when the market is so volatile. Couple that with our herd instinct, and it usually means you get out of the market when everyone around you is similarly panicked. “In investing, it’s better to step back and make a calm, careful analysis — and maybe take action, but not in the heat of the moment,” Wendel says.

Similarly, beware of recency bias. When stocks are falling, no one knows if recent declines will continue or whether the market will head back up. Our decision-making shortcut doesn’t work in the context of investing.

The best way to make sure that impaired decision-making doesn’t derail your portfolio is to externalize the rules you follow for managing it. That means actually writing out how you will handle market downturns in terms of contributing to your portfolio, adjusting your asset allocation, and buying and selling securities.

For more on this and similar money topics, visit Kiplinger.com.