Market cycles are the natural rise and fall of markets over time. They reflect how investor emotions, economic activity, and businesses interact. Although no cycle is identical, they generally follow four phases:
Bottoming – The beginning of a new cycle. This is when markets have hit a low typically following a contraction (last phase of cycle). Valuations are cheap and investor sentiment is pessimistic. The news is still negative, but the worst is usually over. Inflation is typically very low and interest rates are often low as well.
Expansion – Confidence returns. Market prices begin rising steadily, more investors join in, and economic indicators improve. This phase often includes a strong bull market. Optimism builds. Interest rates and inflation typically remain low.
Peak – Markets hit new highs, and the mood is a bit euphoric. Everyone’s talking about investing. It feels like the good times will never end. However, valuations are often stretched, and risks in the market are often unnoticed or ignored. Inflation is often growing at this point and interest rates are typically rising as the Fed attempts to get inflation under control.
Contraction – Reality sets in. Earnings disappoint, bad news spreads, and panic selling begins. This bear market phase can be sharp or prolonged depending on the conditions of that cycle. Eventually, pessimism dominates again which sets the stage for the next cycle.
The most important reason to be aware of these stages is to stay grounded and attempt to make an academic assessment of where we are (it is often difficult to pinpoint). As mentioned above, these phases are general and often have variation in time, intensity, and sometimes even order of phases. Staying grounded can help you make calmer and smarter decisions.