Will There Be a Market Crash?

“I’m worried about a market crash.”

My grandmother said this to me on the phone in early July. 

To give you some context, my grandmother is retired. She lives almost entirely on the money generated by her retirement account. 

Before 2019, she had her retirement investments with a wealth manager. This investment professional lost almost half of her money by trading in and out of stocks quickly and collecting huge fees. 

He was essentially “trading her toward poverty.” 

So in June 2019, I helped her “fire” her wealth manager. Then I helped her create a safe, passive, dividend paying portfolio full of some of the biggest, most stable companies in the world. (If I told you the stocks she owns, you might recognize some of them...)

Family is extremely important to me. So every few months, she calls to ask me questions about the stock market. 

On our call in early July, she said, “The market keeps going up and up. I just don’t see why it’s happening.”

She’s not the only one confused and worried about the markets right now.

As I write, the Dow, S&P 500, and Nasdaq seem to be defying gravity. They continue to notch all time highs.

This is all despite some of the serious “warning signs” in the markets right now…

• As I write, inflation by any measure is the highest it’s been since mid-2008, right before the Great Recession.

• Market valuations (the difference between the price of stocks versus what they earn) are the highest they’ve been since 1998, two years before the tech bubble crash. 

• Then there is the ongoing economic “divorce” between China and the U.S., which threatens the U.S. manufacturing and technology industries in the short term and threatens geopolitical stability in the long term. 

• As this is happening, political deadlock has halted most efforts to potentially stabilize and stimulate the economy.

I talked about the list above with my grandmother, and she agreed that these things worried her too.

But I surprised her…

I told her I am not especially worried about a crash coming. 

And when there is a significant market crash, option premiums go up very high because of the volatility in the markets. That means the it allows us to collect high income premiums from selling options while also acquiring undervalued Legacy stocks.

Crashes are opportunities to me. 

Still, the “warning signs” I listed above are unlikely to cause the market to decline, correct, or crash on their own. 

For instance, if we are indeed in a market bubble, it may be months or even years before the bubble “bursts.” Bubbles only collapse when investors lose confidence in the market. 

A crash requires some kind of catalyst or “trigger.”

In this issue, I want to share with you four of the things that seem most likely to trigger a market crash in the near future. 

And then I want to give you three ideas for what you can do with your portfolio, today, that can help you get richer no matter what the market does. 

Let’s begin…

*** An Economy Built on Sand

The excitement over America’s grand reopening has been largely overshadowed by concern that this recovery is tenuous at best or a complete mirage at worst. 

No matter how you look at it, America’s economy has some dark clouds on the horizon. 

But markets notoriously “price in” or account for all the information available to them. It is largely surprises, uncertainty, and a lack of confidence that trigger a market sell-off.

So what could trigger a market crash?

Many things, but I have three theories.

Crash Catalyst No. 1: A Taper Tantrum

To help prop up the market, the Fed has been buying hundreds of billions of dollars worth of Treasury bonds and mortgage-backed securities. 

By the end of 2020, the Fed’s balance sheet had grown to $6.6 trillion worth of assets. Now? It’s even higher.

The Fed withdrawing support from financial markets is called “tapering.”

When this tapering causes a shock or correction to asset prices, it’s called a “taper tantrum.”

We saw this on May 22, 2013, when the Fed chairman, Bernanke, said the Fed was considering tapering its asset purchases following the 2008 financial crisis.

Bond and stock prices dropped over the next month. 

Ultimately, the expectation of tapering caused a serious market decline and also stalled the U.S.’s economic recovery. This is a “taper tantrum.”

In the recent meeting, held June 18, 2021, the Fed directors began discussing the possibility of tapering its stimulus.

We might see a similar “taper tantrum” occur in the coming months.

Crash Catalyst No. 2: A Major Bankruptcy (or Nationalization)

From 2007 to 2008, the subprime mortgage meltdown and resulting credit crunch halted lending — the lifeblood of the U.S. financial industry. 

This triggered 64,318 business bankruptcy filings in calendar year 2008 after 28,322 in 2007. Because Fannie Mae and Freddie Mac owned or guaranteed nearly half of the U.S. mortgage market, the U.S. government essentially nationalized both. 

These numbers might seem absurd. But consider that more than 97,966 businesses had to permanently shut down during the covid pandemic. 

The Fed is doing everything in its power to prevent another credit crunch… 

But if a big institution falls through the cracks and collapses? This could seriously shake confidence in the U.S.’s recovery.

Recently, U.S. corporate debt has risen to $10.5 trillion. 

The corporate debt market is where companies go to borrow cash. And for over a decade, super-low interest rates left over from the 2008 financial crisis have made borrowing easier and easier. Since then, U.S. companies have regularly offered up bonds for sale, taking advantage of the cheap access to cash.

With too much debt, a company can become a “zombie company.” This occurs when the business’ revenue is not big enough to allow them to pay off the debt. These companies are like the walking dead, shambling slowly toward bankruptcy. 

Right now, zombie companies employ 2.2 million people in the U.S. at a time when the country is still dealing with a major employment crisis. 

Crash Catalyst No. 3: More COVID Shutdowns

On Monday, July 19, the Dow Jones Industrial Average dropped 700 points—the biggest drop since October 2020. 

[The Dow Jones Industrial Average (DJIA), also known as the Dow 30, is a stock market index that tracks 30 large blue-chip stocks. Like the S&P 500 index, it is sometimes used as an indicator of the health of the overall stock market and economy.]

Why? Because investors are worried about a new mutated strain of the coronavirus, the new and even more contagious “delta variant,” causing another crash like what we saw in March 2020.

If you recall, during the “Corona Shock” in 2020, markets fell by over 30%. It was the fastest recession and “bear market” in economic history. 

The U.S. is averaging nearly 26,000 new cases a day, up from a seven-day average of around 11,000 cases a day a month ago, according to CDC data. 

With the spike in U.S. cases, and parts of Australia going back into lockdown to control the spread of the delta variant…

Investors panicked. 

And then, in the following days, the markets immediately recovered. 

If the spread of the delta variant gets worse, and if a new, deadlier variant emerges, I would expect to see a market selloff. 

Probably not as bad as March 2020, but significant.

Crash Catalyst No. 4: Social Discord and New Lockdowns

This one doesn’t have as much historical precedent of crashing the markets, but I think it is a risk nonetheless. 

Tensions in America are high among the poor and working class.

The National Low Income Housing Coalition found that, in 93% of U.S. counties, minimum wage workers can’t afford a one-bedroom apartment.

A flood of evictions is about to slam the more than half of all renter households that lost income during lockdown. This lost income affects one in five households that have fallen behind on rent.

Many businesses in the U.S. are hiring, but folks are saying “I Won’t Work.” Unemployment remains high yet workers have begun to go on strike across the country. 

It would only take a small event and the U.S. could see riots and looting like we saw last summer… or worse. 

*** So What Can Investors Do About All This?

Of all the things I just listed, the only thing that truly worries me is a “credit crunch.” 

And right now, the U.S. Federal Reserve Bank is doing everything in its power to prevent that from happening. 

But if you want to know how to prepare for a correction or crash triggered by the other catalysts I just mentioned, then I suggest you prepare by doing one or all of the following:

1. Hedge Your Bets

A hedge is any investment made to offset risk. 

One way to do this is to bet against the markets by buying a “leveraged short” ETF, which goes up when the market goes down. I have written a separate special report about using these assets before. 

Another way is to bet on volatility by buying a VIX ETF. The VIX or “volatility index” is like the fear gauge of the stock market. Every time the market declines sharply, the VIX spikes. You can see these VIX spikes in the chart below:

I have recommended both assets to readers in the past, but I don’t recommend either right now. Both assets are always on an inevitable march toward $0 because they are based on Futures Contracts that eventually expire. So I only suggest buying these when you suspect an exact date you think a crash will happen. 

And at this moment, I could not possibly tell you an exact date to expect a crash. Only that, at some point in the next 6 to 24 months, we will likely see a serious downturn. 

A better way to hedge, in my opinion, is to buy assets that tend to go up during down markets or consistently pay income, such as treasury bonds, gold, or Legacy stocks.

Also, the payouts for selling put options depends on how high the VIX is. So if the VIX spikes, one of the best things to do might be to make trades.

2. Build Up a “War Chest” of Cash

I think it’s smart, right now, to have about 20% to 30% of your portfolio in cash for a little while.

This way, if there is a crash, you can use this cash to buy up great assets at low valuations. 

One thing that I would encourage you to do is to be “greedy” when it comes to your speculative stocks and growth plays. Don’t be afraid to take profits by selling parts of your positions.

In fact, based on the readings of the MacIntyre Index, it is probably a good idea to sell about 20% to 25% of your growth stocks right now. So for example, if you have 100 shares of a growth stock, you might want to only hold 75 shares and hold onto the cash for a little while. 

3. Do Nothing

Does this one surprise you?

It shouldn’t.

I know this is not what a normal wealth manager or investment advisor is supposed to say. Normal wealth managers at banks earn fees and commissions for buying and selling many of their clients’ stocks. 

I do not make commissions. So I don’t have a problem telling you, reader, what I told my own grandmother when we spoke on the phone:

As long as your portfolio is safely hedged, and as long as you have a strong cash position… 

I don’t think you need to do anything right now. 

Even if the market crashes, you probably don’t need to do anything then, either. (Except maybe buy more shares.)

Let me point out an observation made by an obscure wealth manager named Ben Carlson…

The stock market (specifically the S&P 500) has been highly volatile since the turn of the century, experiencing crashes of 50%, 57% and 34%. It’s possible we’ll see other crashes like this again in the future. 

But these market crashes and corrections? Most of them last less than a year. 

Plus, the time between corrections can be very, very long. 

The longest the stock market has gone without a double-digit correction since 1950 is 7 years from 1990-1997.

Then from 2002-2007 we saw four-and-half-years with no corrections.

This may surprise some people, but the third-longest streak of no market corrections over the past 70 years or so was the four years from late 2011 through late-2015.

Here’s the full list since 1950 (corrections in blue and bear markets in red):

[A market correction is a decline more than 10%. A bear market is a decline of 20% or greater.]

One thing you should notice is how, since the Great Financial Crisis ended in 2009, market corrections have lasted very short periods of time. 

This happens to coincide with the time that the U.S. Federal Reserve Bank has been actively adding cash and liquidity to the markets. Sometimes, they have been doing this aggressively. 

But more importantly, if you plan on selling and waiting for the next correction…

You might miss out on some massive returns. Bigger gains, in fact, than the losses!

These are the biggest gains on the S&P 500 that occurred between double-digit corrections:

1990-1997: +302%

1984-1987: +147%

2003-2007: +112%

2011-2015: +109%

This is why I do not recommend trying to time the markets. And it is why I am not, currently, recommending that anyone sell all their stocks or stop trading options. 

It is also why, if I ever recommend selling anything, it is typically only a “partial sell.” 

Yes, it is important to be prepared for a downturn. 

But 90% of the time? The best “preparation” is to mentally prepare yourself to do absolutely nothing.

This is the advantage we have because we take a long-term mindset, we do not have to worry. 

That is what I told my grandmother on the phone. And it is what I am telling you now. 

I hope that helps to put your mind at ease a little bit.