How Bear Markets Work – David Prince Talks Anxiety, Pain, and the Light at the End of the Tunnel


Want to learn how to trade through a bear market while keeping your sanity and wallet intact? Then check out this interview with David Prince, Founder of our Inner Circle community. 

David delivers the cold, hard truth about bear markets, including:

  • What a bear market is beyond a mere 20% decline in the SPX
  • The psychological toll the market takes on your brain
  • How to keep your head screwed on straight when volatility is high
  • Where he is finding opportunity
  • The stocks he is watching for 2023 and 2024
  • What's different about the oil sector
  • What he sees in the semiconductor and housing markets
  • What a bottom really looks like

And more!


Note: this interview has been edited for length and clarity.

Michael Comeau: David, I’ll start by asking you a simple question: What is a bear market?

David Prince:  There’s the classic definition of a being 20% down from the highs. But the way I see it, a bear market is a market that is trending lower and has not hit a bottom, and doesn't have one in the foreseeable future. 

MC: Can you talk about the psychological impact of a bear market? What is that doing to people's minds right now? 

DP: Sure. You have the initial reaction: “Oh my God, it's not easy anymore the way it used to be.”

Then you have the “Okay ,I hope it gets better” phase.

Then you’re in the “hope didn't work, I've lost money, and this is starting to get painful” phase.

Then you have the “I need to find a new career” phase.

Finally, you have the panic and distaste and lack of interest. It's a long process that many people don't adjust to or recognize until they're halfway through.

Sometimes you have angry people. And course, there are happy aggressive traders that love downside momentum because things go down much faster than they go up. For some people, bear markets are great.

MC: How do you view the temperature out there now? The VIX is up about 65% in the last few weeks and all the sentiment indicators are very negative. Are people pessimistic enough?

DP: No. We saw so many bullish extremes in 2021 and I expect  more of the same on the downside. I’ve been around for a while and I’ve seen a lot of crazy things happen, but nothing like JPEGs selling for millions of dollars or Plug Power (PLUG) hitting $70. And cockamamie companies that have been around for decades losing money becoming hot stocks.

You had names like Snowflake (SNOW) come off the lows from earnings and go up something like 70-80%. That's not indicative of everyone being despondent and it's not anywhere near the way you bottom. 

There is not that ever-present fear, like people waking up and asking “how much money am I going to lose?” I haven't seen that yet.

MC: So let's talk about the silly stuff. We saw a boom in things like NFT’s, Rolex watches, sports cars, electric guitars, trading card games, cryptos. Has that stuff bottomed?

DP: It’s sort of irrelevant to me. 

I won't judge Where we are in the marketplace by really like how far Bitcoin has dropped. It Doesn't have to go to $10,000 or $12,000 to create a bottom in risk assets. I almost don't care.

I don't think the lows are in for the art market and the watch market. I'm into collectables, like sneakers, art, you name it.

The point is that market has only barely come up. 

The car market is just beginning to implode. There will be upside down Lamborghinis everywhere you look over the next couple of years. You’ll be able to buy them for pennies on the dollar.

There's further to go, but I don't paint them all with the same brush.

MC: Months ago, inside Inner Circle, you talked about the semiconductor industry moving into a state of oversupply. Now JP Morgan is talking about oversupply of everything. Do you think that’s priced in?

DP: It’s a process and it’s not a one-quarter deal. It's often two to three quarters. And the difference this time is the amount of orders – the that double and triple catch-up to what they thought demand could be. The downside here might be longer and more severe than we normally see. 

These stocks will bottom before the news flow changes. But I don't think they've hit bottom yet because of the ordering that every major chip company did in 2020 and 2021.

MC: It feels like a lot of high-profile  market people are catching flack. Like Cathie Wood wrote that letter to the Fed and people laughed. And Jim Cramer has been catching a lot of flack with the inverse ETF and those sorts of things. It seems like we’re in hero-killing mode, symbolically. Do you think that's fair to them? 

DP: When you put yourself out there publicly, it comes with the territory, right? Movie stars complain about not having privacy, but then they make $20 million on their next film. So the direct answer is how they handle it. I think, in both instances, neither has humility. I think Cramer is beyond bright. If he was just a little bit more humble and talked about his mistakes, it would be better. And Cathie never said “I probably made a mistake here.” Neither of them had any humility, and that's why they're so attacked.

I make mistakes all the time, but at least I come clean.  

Josh Brown made a bad call on the CPI and he came clean and said he was wrong. No one thinks about it anymore because he was humble about it. So I think they deserve it because they pretend they don't make mistakes.

MC: Let’s talk about humility. I felt like a genius in 2020, less smart in 2021, and a moron this year because I see an awful lot of red in my account. What advice do you have for people that went from having it easy to having it tough now?

DP:  The first thing is to understand is we may not see 2020-2021 again for another decade or two. We saw things you're not supposed to see in financial instruments and markets. I'm not going to play Mr. Macro Expert here, but we all know it was a lethal combination of our government and Fed officials flooding everything with money.

The quicker you adjust to reality, the better it is, and here's the good news: if you can make it through this new game, you have a realistic view of what markets are like. Over the next few years, you're going to have constant 10% and 20% pullbacks, which used to happen all the time.

This resembles reality a bit more. So if you can figure out how to include valuation with your charts, the better off you’ll be. I've been telling the Inner Circle trading community about the semiconductor implosion for a long time, and I didn't have to look at charts to save me a lot of money on the downside.

I’m not even close to perfect. I just made a mistake with AMD (AMD). The quicker you educate yourself and adjust down the road, the easier trading gets down the road. If  you can figure that out today, then you can have a real future.

MC: You talked about how the market wouldn't move before the news flow got positive. Are you doing any long-term buying at all?

DP: I’m buying a little here and there, but nothing of any real significance because we’re ruled by the averages. The indices are what guide us overall, so it may not matter whether I think NVIDIA (NVDA) is oversold. If the QQQ’s have 20 more points of downside, that’s going to hurt a lot of risk assets 

If I'm buying long-term, it's very slow and small until I feel the averages are at a reasonable level where I have an edge.

When I'm long, I want names that can go up without the averages.

If I'm short, I want that stock to be able to go down or implode without the averages. 

The key to trading is relying as little as possible on the market. Right now there are very few stocks that can do that.

MC: Can you talk about some of the names that have a chance of escaping the storm?

DP: There is the oil sector, names like Halliburton (HAL) or Occidental Petreoleum (OXY). But beyond that, every company is at risk — from restaurants to financials to semis to cloud to software names, which are still expensive relative to history.

The problem is that oil follows the rest of the economy. So if we're going into a recession, I believe oil will follow to the downside. You have to be careful there.

Amazon (AMZN) is interesting. It was the first to rally during Covid and one of my largest positions, but it hit every single pothole they possibly could, and it's been a disaster outside of the cloud/AWS business. It should rally early in a better market and would be one of my favorites for 2024.

Google (GOOGL) will be too cheap around $90. 

In bear markets, I concentrate on larger names, because they bounce first. 

I adore Restoration Hardware (RH), but we haven't hit a bottom in the housing market. So that's one to watch over the next few months.

MC: that's a good segue to talk about earnings season, which is coming soon. Everyone fears the supply glut. We just saw Nike’s (NKE) inventory spiraling out of control. You also hear that with Wal-Mart (WMT), Target (TGT), etc. Is that priced in?

DP: The market’s direction is solely dependent on the Federal Reserve and the CPI. It's not going to be whether companies beat or miss. It’s whether the Fed is closer to the end of this rate hike cycle.

It's going to be the worst earning season in 4 or 5 years, and many of those stocks might be up. That depends on whether markets are oversold. And if people can look forward into 2023 when comps get better, that would help. But big picture, it's all about the Fed.

MC: Do you think the Fed will succeed in a soft landing?

DP: I don't think that's remotely possible. The highs were too high. There are too many industries like the housing and car markets. So we’re in for pain on the other side. We're not anywhere near 2008, but I don't see us just being fine.

The Fed was so late to the game talking about transitory silliness, and now it feels like they're doing the same thing all over again. So I think they have no shot at a soft landing.

But here's the problem. They risk credibility if they take their foot off the gas. 

They are in a no-win situation so they’re caught between a rock and a hard place.

MC: Let's get down to the details of making money in the market now because we don't want to just avoid the bear market car crash, we want to make some money where we can. So what's working for you now?

DP: Here's what I've been preaching for 9-10 months: less positions, less size. Don't be a hero. So what does that mean in English? I take traders when the risk-reward sets me up for a single or a double. Not a home run. Think about compounding growth which adds up. 

Recently, it’s been short-term plays in Tesla (TSLA) because I like the volatility. So I’ll put on small positions, buying dips and selling rips inside the ranges. They key is to string together those singles because they add up.

MC: it does seem like the wins in a smaller number of names like Tesla (TSLA), the QQQ’s, and ENPH

DP: Really successful traders try and find a trend and stick with it. Like Nucor (NUE), which broke down from $130 to $100. I understood how it trades, so we focused on that name. 

You hear the same names over and over because we’re taking less positions and just sticking with what's working.

MC: Do you naturally have a better feel for certain names?

DP: I think I was built on volatility. That's where I do best. The QQQ’s inherently have more volatility than SPY, so I gravitate there. The same is true for growth stocks overall, where I I have an edge because I embrace volatility, though not in a cowboy way. 

My age helps because I can remember semiconductor gluts and understand how low they can go in bear markets. I remember when AMD and Nvidia traded for 8-15 times earnings. 

And I understand that Lennar (LEN) is not an easy buy, even though it's trading at five times earnings. Because that means it's really 10 times earnings, because the earnings will get cut in half. 

MC: So what is the market teaching you these days?

DP: I learned that anything can happen. Things that I’d bet my life savings against. Like GameStop (GME). Don't discount even the craziest thoughts because extremes can happen. 

Look at Teladoc (TDOC). I like the concept of the business, but I never dreamed it would hit $300. And then $25. The extremes are just so immense. 

And there are so many companies that have no business being public, raising money without a business plan.

Anything can happen, and I used to feel like the markets weren't like that. Now there’s stuff you couldn’t make up if you were writing a movie.

MC: So many of these work form home, stay at home stocks are lower than they were in January 2020, like Zoom (ZM). Are these buying opportunities?

DP: No. This is where understanding finance helps. A lot of those names are bigger because they’ve done a lot of secondaries. You have to go by market cap and enterprise value. So the market caps might be higher even though the stock price was cut in half. 

And no one in their right mind should ever buy a stock based on what percentage it is from all-time highs, especially in a bear marekt.

When reality sets in and valuations matter, being down 50% off the highs means nothing.

MC: So how do you know when valuation matters?

DP: Well in this case, the Fed told in January that they’ve changed. They used this word transitory for long, and then stopped. I wish I embraced the downside even more. The Fed was out there backstopping things like we've never seen for two years, and then they shifted gears.

MC: Traders’ anxiety levels are through the roof because of the daily ups and down So, how do you deal with those day-to-day stresses in the market?

DP: First, I always tell people to read the Mark Douglas book “Trading in the Zone,” which will help you get control of your emotions. 

Then, do less, and leave yourself room to not be exactly right. Bear markets by nature take people out at the bottom. Then we have these cutie bear market rallies which force shorts to cover, and then we go back lower. 

I deal with it in a very simple way, with no magic. 

I buy less. I leave room to buy more because I assume my first buy may be wrong. 

And I always have an out. 

So when I time my buys right, I do well because there's nothing better than a bear market rally. They're much more vicious than bull market rallies.

Whether you're shorting or going long, size down, because size dictates emotion.

MC: You talked about making mistakes with AMD. How do you develop a good sense of humility? 

DP: It’s thinking of this is an everyday business where you make mistakes and learn.

The best CEOs and managers, since the beginning of time, have run their businesses that way. And you learn from the people around you, which is what Inner Circle is all about. You learn what works, and what doesn’t. 

You have to get comfortable with admitting your mistakes. If you pretend they don't exist, they will keep coming back. You will make the same dumb mistakes over and over.

The quicker you recognize what you're bad at, the better off you’ll be.

MC: So what do you think holds people back from being honest with themselves? Because you see your P&L. You're either making money or you’re not. 

DP: One thing I learned from “Trading in the Zone” is we are predisposed to feel awful when we're wrong. When you're wrong, you feel bad. Some people would rather lose money and not be wrong. I know that doesn't make sense.

Trading is about making money when you can, and keeping your losses small. 

Too many people are caught up with being right or wrong. The minute you take that part out, you start getting better. But people are built emotionally to not want to be wrong.

MC: That’s the perfect note to end on. David, I hope you will join us once again. 

DP: Thank you Michael. I’m sure we’ll do another event soon.

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