Whenever Investors Get Euphoric, a Severe Stock Market Crash Follows
When everyone is on the one side, it’s time to pause and reflect. This is what’s happening in the stock market these days. It could end badly. We could even see a stock market crash.
If there’s one thing that past stock market crashes have taught us, it’s that market tops occur just when there’s peak optimism and investors have an idea embedded in them that nothing can go wrong.
Want proof? The most recent example of this was in February 2020. There was a global pandemic brewing, and it was pretty evident that it would have an impact across the board. However, investor sentiment was euphoric and markets were actually making all-time highs. Just a few weeks later, when reality hit, investors panicked and sold their shares. We saw one of the fastest stock market crashes on record. Within a few weeks, the S&P 500 was down by more than 30%.
After the stock market crash of March 2020, there was a miraculous recovery (thanks to the Federal Reserve printing money). Stock prices bounced higher and the trend continued to point upward. Throughout 2020, investors were skeptical. This is not the case anymore. Everyone seems to be on one side of the trade, and it indicates that the stock market is going higher.
10 Million New Brokerage Accounts Opened in First Half of 2021
Here’s some perspective.
According to Vanda Research, in June, retail investors bought $28.0 billion worth of stocks and exchange-traded funds (ETFs). This was the highest amount since at least 2014. (Source: “Retail Investors Power the Trading Wave With Record Cash Inflows,” The Wall Street Journal, July 5, 2021.)
That’s just a glimpse of what’s really happening. According to JMP Securities LLC, in the first half of 2021, more than 10 million brokerage accounts were opened—similar to the number of accounts opened in the entire year of 2020.
Beyond that, investor sentiment indicators suggest that stocks will go higher. Look at the AAII Investors Sentiment Survey. The weekly survey by the American Association of Individual Investors asks investors their opinions on the stock market for the next six months: whether they’re bullish, bearish, or neutral.
In the most recent survey, 48.6% of all respondents said they were bullish on the stock market, while just 22.2% said they were bearish. Historically, bullish respondents have amounted to 38% and bearish respondents have amounted to 30.5%. (Source: “AAII Investor Sentiment Survey,” American Association of Individual Investors, last accessed July 8, 2021.)
This Won’t End Well
Dear reader, I can’t stress this enough: be very careful. Euphoria in the stock market has never ended well. This time will probably not be any different, no matter how much the mainstream media tries to convince you otherwise.
Am I predicting a stock market top? Not at all. It’s impossible to predict tops and bottoms, or even to time them.
But what’s unfolding these days calls for caution. The stock market may go higher in the near term because there’s a lot of pent-up demand. For the long term, however, you have to ask what will happen when the buyers become exhausted and/or we get some sort of economic shock.
A rigorous stock market crash could follow.