PREPARING FOR STOCK MARKET CRASH
The Worst Economic Depression Ever May Be Coming
Possible stock market crash that could be worse than even The Great Depression of 1929–1939
With Nasdaq at -20% and S&P 500 at -11%, Have We Hit the Bottom?
At the time of this writing (market close March 15, 2022), major stock indices have seen a substantial drop from its highest point (~20% for Nasdaq Composite, ~11% for S&P 500).
Have the stocks fallen enough? Will stocks now bounce back as they have following the Covid shock in 2020–2021? Should you load up on stocks now?
To put the current market drop in perspective, the S&P 500 dropped almost 60% from tops during The Great Recession (2008) and the Nasdaq Composite dropped staggering 70% during the Tech Bubble burst (2000).
If you are considering loading up on stocks now, I would recommend caution, as the current market drop of 10-20% from tops could be just an appetizer to a full market panic course, considering the unprecedented combination of numerous worst-case-level risks pressuring the market in tandem.
I would like to summarize the bull market since 2009 that led up to the current market situation as:
Ulltra Low Rates of 1930s + Tech Boom of 1990s+ Geopolitical Tensions & High Inflation of 1970s
This is a combination of three separate decades of economic forces that each led to strong & prolonged recessions in the modern financial market history — now all at a single point in time.
No one can predict what will happen in the future, but based on past history, disastrous consequences could be ahead.
History is Important
To objectively assess the current market conditions, we need to look at market & world history way beyond what many of us have experienced in our lifetimes.
Charlie Munger has always emphisized the importance of studying history as he said — in his praise for Howard Marks’s book Mastering the Market Cycle — “I always say, ‘There’s no better teacher than history in determining the future’…”, and so does Howard Marks, as he explains how to get a sense of where in the market cycle we currently may be.
Ray Dalio also makes a convincing point on this regard with special emphasis on geopolitics & the changing world order spanning hundreds of years in world history.
War Risks
Dalio’s examination in the short video below draws light on the current world events of the Russian invasion of Ukraine and the increasing geopolitical tensions with the possibility of even a World War III.
High Inflation & Money Supply Shock
In addition to Dalio’s examination of geopolitical risks, I want to draw your attention to the high inflation period of 1970s triggered by the OPEC Oil Crisis, which continued for the entire decade because of the Fed’s wavering response to raising rates out of fear of creating market panic, and how, in contrast, the Fed under Volcker was able to stabilize the market only after aggressively hiking rates for 2 years (1980–1982), unwillingly condoning a short-term market panic.
Taking this history in perspective, the current Fed under Jerome Powell will likely hike rates aggressively to first stabilize inflation in spite of possible short-term panic, even with the increased risk of recession arising from Russian war complications — I think hopes of Fed slowing rate hikes because of the increased risk of recession due to the war would likely disappoint.
An Unprecedented Situation We Currently Face
Currently, we are facing an unprecedented combination of not just a few, but numerous worst-case-level events that most investors of today’s financial world have never experienced in their entire investing careers:
- Highest inflation in 40 years (7.9% CPI, 10% PPI — Feb, 2022 YoY)
- Continuing supply shocks from prolonged Covid-19 pandemic
- Russian invasion of Ukraine & the increasing risk of World World III
- Risk of raw materials crisis from Russia & China
- Ultra low (zero) interest rate environment that have continued since 2009 that we’ve never seen since 1930s — now destined to be hiked aggressively due to the highest inflation we haven’t seen since early 1980s
- Unprecedented supply of money poured into the financial market due to Covid-19 that created a bubble out of already strong markets — now destined to be taken away
- Unprecedented degree of accumulated debt & mortgages now facing the consequences of aggressive rise in interest rates
- Unprecedented proportion of retail participation in not only the stock market, but also crypto & NFTs, likely to burst with the evaporation of wealth effect
- No hope of QE support by the Fed until inflation is stabilized
In summary, the main risk with the current market situation is the potential for the following procession:
unprecedented high inflation >> consumer panic from rising prices >> aggressive rate hikes & monetary tightening by Fed >> market panic from rising interest rates & debt burden >> stock market crash
An already historically high inflation rate at 7.9% CPI will likely accelerate even faster due to the geopolitical risks from Russian invasion and a potential raw material crisis triggered by Russia and China weaponizing their raw material supplies, increasing the potential degree of aggressiveness of the Fed’s rate hikes and the degree of market panic that could follow.
The scariest aspect of the current market situation is that we face these unprecedented risks near the top of an unprecedented stock market boom that have been ongoing since 2009 due to the unprecedented low rates & overflowing money supply never seen since 1930s, but this time, unlike the tech bubble burst of 2000 and The Great Recession of 2008, the Fed cannot be depended upon to provide protective lifelines in the form of lowering rates & quantitative easing due to the high inflation not seen since early 1980s — on the contrary, the Fed must suck in an already-overflowing money supply from the markets and aggressively raise rates to stabilize inflation.
The Single Most Important Investment Wisdom
There is a popular saying: “Don’t fight the Fed”.
What this essentially means is that when the Fed increases money supply, you should invest in the stock market, but in the other case, when the Fed tightens, you should stay on the sidelines.
I personally cannot agree more and I believe this is perhaps the single most important investing wisdom: Invest in times of monetary support, stay away in times of monetary tightening.
So, until you hear in the news that the Fed is again ready to lower rates & support the market with QE, it would be wise to stay on the sidelines with cash ready to load up on stocks when they have become unbelievably cheap in the aftermath of an extreme panic.
