Fear over a major stock market decline continues to permeate the investor landscape. It’s amazing how high the level of fear is, considering the market has made recent all-time highs and remains within striking distance.
The stock market has a history of fooling the most people, so is it possible to start a major decline with so many people fearing it in advance?
There certainly is that possibility, but it would be a stark difference from the two previous major market tops that occurred in 2000 and 2007. Leading into the top of 2000 we had expectations that making 15% every year from tech stocks was going to go on into perpetuity. The 2007 top was more characterized by a housing market that people felt would never go down again in our lifetime.
One could argue that we did see jubilance normally seen at major market tops in 2017. It was one of the more consistent advances that you will ever see over the market without a few fearful testing periods. Tax cuts fueled a belief that American excellence was here and only going to get stronger. Perhaps, the process of whipsawing emotions up and down over the last 18 months is sufficient in tiring the market for a bigger fall.
I see three basic frameworks for the market going forward.
The first is the market has already topped out and is in the process of a major drop to multi-year lows. The second is that we are again underestimating central banks’ influence around the world pumping liquidity into the system, and the markets still have well over a year of a strong rise ahead.
The third is a combination of the first two scenarios where the market moves drastically higher over the next six months before a swift move lower to multi-year lows.
I fully admit I don’t know which one is right, but I believe the third one is the likely winner. This would sufficiently make the most people wrong, something the market does best. The liquidity from global central bankers could provide the fuel, along with a possible trade deal with China, and news the economy is still in expansion. This would likely hurt the growing number of people currently betting against the stock market, while ultimately also hurting those late to the party who decide to invest sidelined money that hasn’t been in the market.
We are watching key levels that would increase the probabilities of each of these frameworks being the right one to work with. Currently, our work says the first framework would need to see the S&P 500 move below about 2,750 to lend significant probability of that outcome. In that case we would shift to a far more conservative stance. The other two frameworks remain in play. For now, we are believing – and let’s be real, hoping – that the second or third scenario are the correct one.
(Past performance is no guarantee of future results. Advice is general in nature and not intended for specific situations)
Aaron Pickert, CRPC, is associate adviser at Stewardship Capital in Independence. Past performance is no guarantee of future results. Advice is intended to be general in nature.