A bull market is coming: this is what the smartest investors do

To say 2022 was a terrible year for stocks is an understatement. The benchmark S&P 500 index fell 19%, with the tech heavy Nasdaq composite a decrease of 33% on the year. Investors have eschewed stocks in favor of safer places to park their hard-earned savings.

This may be the wrong approach as prices will eventually rise again. At that point, you want to be well positioned to take advantage of it. I don’t know when exactly, but one more bull market seems inevitable. This is what the smartest investors to prepare their portfolios.

Develop as an investor

The best investors, those who want to stay successful and stay in the game for the long haul, know that they must constantly try to improve their ability to find winning stocks. The past few years have taught us a critical lesson about how we should all try to evolve as investors based on ever-changing circumstances.

Since the end of the Great RecessionFor most of the past decade, the Federal Reserve has been characterized by ultra-accommodative and accommodative monetary policy. This not only led to strong economic expansion, but also favored companies that could access the capital markets on favorable terms to aggressively invest in their growth at the expense of short-term profits. The same dynamic was true more recently during the pandemic for many internet companies during and just after the coronavirus health crisis.

The market loved these ventures and rewarded the often undisciplined financial behavior of companies. Companies like Carvana and Platoon interactivefor example, were able to quickly increase sales with a positive net result that was not even a concern for shareholders. It was easy to make money as an investor by simply buying the fastest growing companies you could find and enjoying the ride up.

Then 2022 changed that backdrop. Inflation quickly reared its ugly head, and as a result, the Federal Reserve began raising interest rates. Consequently, these Wall Street darlings saw their stock prices plummet as gains and free money flow started to matter again. Investors should now develop their strategies to favor these types of companies.

An unstoppable supply of clothing

With this framework in mind, readers need look no further than Lululemon Athletica (LULU 2.65%) as a company whose shares must be added to wallets. The athleisure pioneer not only showed strong sales growth in recent years — 167% between fiscal 2016 and 2021, to be exact – but this impressive gain didn’t come at the expense of operating profit. In fact, diluted earnings per share (EPS) skyrocketed 239% during that same five-year period.

And while many companies that grew like wildfire in recent years have since slowed dramatically, Lululemon shows no signs of that happening. In the most recent quarter, sales increased 28% compared to the same period last year, with diluted earnings per share increasing 39%.

Management expects sales for the fiscal fourth quarter (which ends at the end of January) to grow 24% compared to the fourth quarter of 2021. That is remarkable, especially when you consider how convinced many expert economists are that there are likely to be a recession will come.

Helping shareholders sleep well at night is Lululemon’s strong balance sheet, something that should be a serious priority right now. As of October 30, the company had approximately $750 million in liquidity and zero debt, meaning it is not at risk of solvency problems should a severe economic downturn occur in the near future. That’s easily worth paying a price-to-earnings ratio of 35 right now.

The main takeaway for investors is not to completely avoid stocks in falling markets. Instead, always look for ways to improve your process to adapt to the changing landscape. Not only will your portfolio’s returns improve, but most importantly, your skills as an investor will improve.

Neil Patel has positions in Carvana and Lululemon Athletica. The Motley Fool has positions in and recommends Lululemon Athletica and Peloton Interactive. The Motley Fool has a disclosure policy.