The Next Stock Market Crash and the Two Possible Reasons to Say “No” to U.S. Stocks
After the Labor Day holiday, finance and business will resume a more regular existence. The summer tends to slow everybody down. The first few weeks after Labor Day, however, are often like taking a dip in freezing water. As far as investing is concerned, statistically, September can be a scary month—think back to 2008 or 2001…. It would be wise to expect and prepare for a U.S. stock market crash.
Those investors who trust stock market crash predictions will already have observed this ominous fact. Wall Street has not had a major market correction in months. In other words, investors have become too complacent; their instincts are weak and untrained to spot sources of trouble. Yes, on September 5, as many resumed their normal lives and kids hit the books again, the market delivered the first tremors of a budding financial crash.
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Wall Street experienced a one-percent, or so, correction on September 5. The Dow Jones flirted with 22,000 points on September 1. But, even the most enthusiastic traders were scared. After all, the reasons for the Dow setting a record are hollow at best. Simply, the jobs report was not as good as expected. Thus, investors believe the Federal Reserve will not raise the nominal interest rate for the time being. (Source: “Stock market finishes higher as jobs report diminishes rate hike expectations,” MarketWatch, September 1, 2017.)
So, in case you hadn’t figured it out already, it’s something of a conceptual oxymoron. The market is suggesting that producing fewer jobs—or having fewer people earning a regular income—is somehow great for the economy. That’s the kind of twisted logic that gets investors in trouble. It’s also a desperate logic. It sends the message that everything will be fine so long as interest rates stay put. Clearly, anyone who believes and trusts this notion fears that the economy is not so great after all. The present stock market valuation is resting on quicksand.
The First Reason to Say No to the U.S. Stock Market Now: North Korea
A black swan event in such a context could truly bring the whole house down. The trouble with black swans is that you can’t see them coming. Indeed, no amount of decent corporate profit data, as produced during the second quarter of 2017, can mask the fact that next stage in the North Korean crisis could shake the world—and the markets—in the same way that Harvey hit Houston.
A major risk event would be absorbed as a market correction. The markets would digest it quickly and move on. But the problem is that U.S. stocks are overvalued. They are in a bubble. Black swans tend to burst bubbles and send market valuations back a few “generations.” The collapse of Lehman Brothers in September 2008 sent the DJIA on a spiral dive that ended with a 54% drop to 6,469 points on March 6, 2009 from its high of 14,164 points on October 9, 2007.
The Second Reason to Say No to the U.S. Stock Market: Unrealistic CAPE
The higher the Dow reaches, the greater the impact of a collapse. The stock market nowadays has simply become unhealthy. It’s abnormally high; it’s like a one-eyed cyclops of Greek myth yore. The kind of mindless confidence this requires is begging for a follow-up bearish phase full of volatility.
Let us consider the Shiller CAPE ratio for the occasion. The CAPE ratio, devised by economist Robert Shiller, stands for cyclically adjusted price-to-earnings ratio. It’s a more sophisticated indicator than the traditional price to earnings (P/E) ratio. It takes the good old P/E and then adjusts it to match the current economic cycle. Thus, it’s a more realistic picture than a mere P/E.
As Shiller explains in his book Irrational Exuberance, the “economic cycle” and price earning report based on an average of 10 years allows us to place P/E ratios in context. The P/E has a different meaning when measured during a bearish market than a bullish one. Therefore, the Shiller P/E can better identify periods of overvaluation. Given that the market has risen some 20% since nine months ago, Shiller thinks the market is overvalued. (Source: “U.S. economy must perform in future to justify stock market valuations,” Sierra Sun, August 15, 2017.)
So, it seems clear that the market is pricey. It also seems like the Federal Reserve is running out of excuses to hold back on another rate hike while the U.S. government could be entering a period of substantial turmoil. By that, read “indecision.” Considering the risks from North Korea and runaway CAPE ratios, the risks of a massive stock market crash are multiplying. It’s not an ideal time to be invested in the U.S. stock market.
