Last month, the S&P/ASX 200 Index (ASX: XJO) entered into a bear market. A bear market is when the stock market as a whole falls more than 20% from its most recent high.
This was significant – we hadn't seen a bear market in years and it came after what was one of the best years in history for ASX shares in 2019.
However, if you blinked you might have missed it! As of Monday this week, the ASX 200 was back in bull market territory, having notched up more than 20% in gains since the lows plumbed in March.
Talk about a one-two switch!
But with the markets recovering so strongly in the midst of this coronavirus crisis (which I think we can all agree is unfortunately far from over), many investors are getting nervous. Has the market found its bottom, or is this a false recovery?
Well, the hard truth is that no one knows. Not me, not any of my Foolish colleagues, not Warren Buffett and (unless you, dear reader, have a crystal ball) not you.
It literally could go either way.
And yet I don't think we as investors are going to be forced to make a bet one way or the other. In my opinion, it is possible to have a foot in both camps.
So how does one prepare for both scenarios?
It's by holding cold hard cash.
Cash can be king
See, cash as an asset is the complete opposite of holding ASX shares.
Shares (for the most part) grow in value over time, cash inflates away. Shares are volatile, cash is static and liquid. And because it's static, it can form a cushion for your portfolio. If your portfolio is 100% invested in shares and the market drops 50%, your portfolio will do the same. But if you're weighted 50/50 with cash and shares, your portfolio will only drop 25% in a similar scenario.
So if you're not sure which way the markets will go in the next few months, the best way to be prepared (in my opinion) for either scenario is to build up a significant cash position. I'm not suggesting a 50% cash buffer here – it's really up to you and your risk tolerance. You could go 10%, 20% or 50% (for example).
If shares do drop down the road, you can add to your positions and if the markets keep going up, you've already got shares to benefit from this trend. Thus, you have a foot in both camps, and you see benefits either way.
If volatility doesn't bother you, by all means stay 100% invested. History shows investors who do this end up more than fine in the long-run. But if you're worried, I think it's far better to have a bet each way than trying to guess when to pull everything out and then put everything back. History is less kind to that strategy!
