Why 20%?

Barry Ritholtz poses the question. It’s a good one.

What is the magic about 20%?

What makes this the “official” onset of a bear market? There isn’t any NBER-like group that declares an “official” bear market.

Best as I can figure, the 20% number is a not-quite-a-random number — more than a 10% correction, less than a full blown crash (which for all we know, could be “offically” 30%).

I have no idea who first started bandying about these nice round base ten numbers — but for whatever reason, they seem to have stuck in the public and the press’ imaginations. (Anyone have a better idea where these two figures came from?)

Forget the rather squishy terminology, and consider the following economic, fundamental and technical questions:

• Is the Economy expanding or contracting? Have recent data points been improving or worsening?

• Are corporate earnings getting stronger or weaker? Where are we in the earnings cycle?

• Are stock prices generally rising or falling?

• Are market advances narrow or broad? Is the volume expanding on up days, or on down days?

• Is investor Psychology greedy or fearful?

Rather than focus on terminology, investors should be considering their risk management strategies, what they are doing to preserve capital, and how they are psychologically prepared to deal with what could be an extended downturn.

That matters a whole lot more than whether something is called a bull or bear market…

Wise words indeed.

1 thought on “Why 20%?”

  1. I’d say the figures (20% = recession, etc.) were picked because they stuck in the minds of people and journo’s rather than for any other technical reason. Or maybe that’s just me being cynical.

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