Tom’s Thoughts on a Potential Market Crash
Transcript:
Katie Nealis:
So the first question we have is, is the stock market going to crash this year?
Tom Vaughan:
Okay, that’s a good question. Actually, it came in earlier this week, you know, we’ve had a lot of volatility in this month, and markets down maybe 5%. From its high, you know, in May here. So, you know, people start to wonder about what’s going to be happening. And, of course, if you look at the popular press, there’s almost always, almost every day, there’s somebody writing an article about the stock market crash that’s coming. Those are very popular articles, they get a lot of, you know, views, which is why people keep putting them out, you know, there’s a, there’s a negative bias, that seems to work quite well, unfortunately, in my daily video updates that I do every day, I do try to highlight some of the positive things that are happening, just to kind of offset some of the negatives. So you know, that’s kind of important, too. So we’ll focus on a few things. But let me show you kind of my thoughts on what we’re seeing, you know, with the market. And you know, why I think this year could be safe from a big downturn as far as that goes. But first, let’s just define what a downturn is. And when you say, crash, so let me share my screen here.
Okay, so this is a chart here, of the last 25 years for the s&p 500. And you can see, you know, we had this big downturn here in 2000, a little over 40% drop for the s&p 500. And then, of course, the 2008 downturn that we’re all familiar with, you know, over 50% drop for the s&p 500. We had a little one here in 2018, almost 20% didn’t last long. Then, of course, we have the big pandemic drop here, which was 35%. That’s the fastest 35% down market in history. And you can see, actually, we recovered from that quite quickly, also. So the first thing to talk about is just what is a crash. So I would say a crash is something in that 25% or higher range. And anything less than that is pretty common, you can see how many little downturns we had here. and here and here. And, you know, even like I said, right now we’re down 5% from the high, you know, that we were at earlier this month. So, you know, kind of that 510 15% that can happen. And I expect that to happen. And so you really want to have your portfolio placed in the right risk levels. So you can handle those types of fluctuations, because there’s, those are pretty common. That’s what happens all the time. So you know, what, we’ll just focus on the word crash. And I’ll call that a 25% or higher, you know, event like this. And so what would be, you know, the criteria that would kind of precipitate that type of downturn. And one of the things that I tell myself all the time, just for my own studies, is that a big crash in the stock market has two components. Number one, obviously, the stock market going down, but number two, is the economy going down, especially the leading indicators. So let me see, I opened up the leading indicators piece here, and we find it real quickly.
Yeah, so this is this a thing called the Conference Board, which is a group that does some of the reporting on all kinds of different indicators. And this is a basket called the LSI stands for leading economic indicator. And there’s 10 pieces in here, including the s&p 500. But it’s, you know, manufacturing demand, initial unemployment claims. And these are indicators that they’ve chosen that they feel lead the economy. And so this goes all the way back to the 1960s, which is kind of incredible. And you can see, you know, all these little gray spots were recessions. And so you can see that this leading indicator, you know, peaked out, oftentimes, just before these gray lines, pretty good predictor of upcoming recession. So when the leading economic indicators starts to go down, and the stock market starts to go down, that is a sign that we could be in for something that might be in that kind of 25% or higher downturn. So if you see here, you know, here was the just before the 2000 downturn, it peaked out. And this was back in 2006. It peaked out again before the 2008 downturn. So these are things that I’m looking at. Now, one thing that’s kind of fascinating here is this. So we had this, you know, big drop for that shut down for last year shut down, and then look at how fast things have come back. And this is really important to understand. So number one, this downturn that we just had for the pandemic, the leading indicators were still going up. So it didn’t help us to know because it was a not an economic event, it was a health event that created an economic event. So, you know, assuming we don’t have another one of those anytime soon, which I’d be very surprised to see another full shutdown even if the variants can
have jumped out a little bit.
I think that that, you know, is the only situation where I’ve seen where the economy and the stock market together don’t go together. So look at where it’s doing right now. So they just reported it was up 1.6% higher than last month, which is a giant jump for the syndicator. It’s up 17% more than last year, which is a jump for a one year period. Anytime you had the leading indicators jumped by 7% or more historically, I think 82% of the time that that happened, you ended up with the S&P500 at 6%. Sorry, 8% higher than it was prior to that. So if you look at this really closely, how many times have you seen big drops where the leading indicators are going down? I haven’t seen any, except for sorry, they’re going up. The only time I’ve seen it go up and the market go down was during the pandemic. So barring a pandemic, you know, these indicators are going up tremendously. So really, really amazing time right now. So are we going to have a crash this year, it would be the one of the most unusual crashes in history, as far as that goes, because the indicators here are going up so strongly. And the other thing, and generally what ends up slowing down the economy is the federal funds rate. So the Fed sets rates, and they basically come in and they say, Okay, here’s the current rate. And so you can see prior to the 2000 downturn, and went from about four and three quarters all the way up to six and a half. And we ended up with a 2000 downturn. And then we went from one, you know, percent roughly all the way up to five and a quarter. And we had the 2008 downturn, and then we had this big upturn. This actually led to some of the downturn that happened at the end of 2018, that little 20% always looked at, but now we’re at zero. So again, going back through time, when you see rates at zero, it’s very difficult for the market to fall apart. The big component that’s happening right now, is just the fact that people are feeling like they’re going to have to raise rates sooner than they said they would.
So yeah, that’s the issue that’s happening in terms of inflation and those types of things. So again, looking at kind of what’s happening here, I have a hard time imagining a big giant downturn. However, I’ll show you one piece here, let me sign in real quickly. This is sort of a fascinating area to look at within inside the market, because there are some pieces where the market is actually you know, having some trouble here. And let me get this, there we go. So this is what’s called the nine boxes. And so this is today, right now, as is live. And you can see here, the value stocks are doing better today, right. And some of the large growth is slowed down a bit today. And so these, you know, pieces are really important. But if you go back for the three months, you can see actually, there has been a pretty significant market downturn on this growth side, especially this kind of smaller growth piece. So I, I will say that there is something a little different about this particular market that you have to be careful with. And that’s just that you could have a quasi crash for a piece of the market. This is the portion here, this column that did so well last year, that is struggling so far this year. So that aspect of it i think is kind of important to understand, you probably want to be leaning more towards the value side of the equation. Because as interest rates come up and as the economy reopens these stocks, theoretically have a better chance of, you know, avoiding some of the downturns if it does happen, then you might see in some of these growth stocks here as far as that goes, so, you know anyway, so that’s, that’s the answer to that.