Could the U.S. Stock Market Crash Next Year?
The year 2024 was a stellar year for the stock market. Key stock indices like the Dow Jones Industrial Average, S&P 500, and NASDAQ soared by double digits. But now the big question is: could we see a similar performance in 2025, or will there be a stock market crash?
Take a look at the charts; they suggest that momentum on the stock market is in favor of those who are buying. Trends are pointing higher. And the Chicago Board Options Exchange (CBOE) Volatility Index (VIX) (often referred to as the “fear index”) is suggesting that investors aren’t fearful, so the stock market could go higher.
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In fact, momentum indicators, trends, and the fear index indicate that a stock market crash isn’t even a thought that investors are entertaining these days.
Now, what about analysts?
They think the stock market is going a lot higher. Even Wall Street analysts’ worst-case-scenarios aren’t that bad.
As of December 20, 2024, there are 12,168 ratings on stocks that make up the S&P 500. Of these 12,168 ratings, 54% are “Buy” ratings, 40.1% are “Hold” ratings, and just 5.1% are “Sell” ratings. (Source: “Where Are Analysts Most Optimistic on Ratings for S&P 500 Companies Heading Into 2025?” FactSet, December 20, 2024.)
Just looking at analysts’ ratings, it’s pretty clear that a stock market crash isn’t something they are pondering these days.
When Valuations Peak, a Market Crisis May Follow
Now let’s come back to reality a little bit…
You see, momentum, buy ratings, and bullish targets for the stock market are all great, but if you are investing for the long term, it’s important to pay attention to valuations.
Valuations matter greatly in the long term. The stock market moves on noise, emotions, and everything else in the near term.
As it stands, valuations are really getting expensive. And this shouldn’t be taken lightly whatsoever.
If you read about the history of the stock market, you will learn that whenever valuations became extreme, a stock market crash followed.
Seriously, point to any major stock market crash that has happened over the past few decades, and you will find that the peak on the stock market formed around when valuations were extreme.
For some perspective, consider how expensive the stock market has gotten…
The forward 12-month price-to-earnings (P/E) ratio for the S&P 500 currently stands at 22.3. Keep in mind that the P/E number by itself doesn’t mean much; you have to compare it to the historical average.
With this said, the forward 12-month P/E ratio for the S&P 500 is currently above its five-year average of 19.7 and 10-year average of 18.1. (Source: “Earnings Insights,” FactSet, December 13, 2024.)
Here’s the more worrisome part: this is just one of the valuation measures flashing a warning for the stock market. In fact, almost all the major stock market valuations indicators are suggesting that stocks are extremely overvalued.
How Severe Could the Potential Stock Market Crash Be?
So, dear reader, with valuations in mind, I have to wonder: what will happen to the stock market in 2025?
Of course, I’m not rooting for a stock market crash. I like it when everyone is making money, but I think some sanity is required going into the new year.
If investors start paying attention to the valuations and there ends up being a stock market crash in 2025, it will likely be severe. Don’t rule out a move on the major indices that’s bigger than 20%.
The last thing you want to do is to get caught in it by surprise. If indices are falling 20%+, individual stocks could put out an even more severe performance.
I will end with this: the best buying opportunities appear during stock market crashes. And those with cash on hand can take the most advantage of these opportunities. So, perhaps, with the stock market roaring these days, it’s time for you to raise some cash.
