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When Will the Next Market Crash Occur, and What Will Cause It?

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Just about every day, financial headlines warn that the latest massive run-up of the stock market is on shaky ground and that the market is headed for a crash. These warnings don’t usually make it to page one, but they should alarm anyone who has a substantial amount of personal wealth in stocks.

“October is the scariest month for investors, along with all the others,” a Bloomberg article quipped -- playing off the Halloween season but also off investor memories of the Great Crash of October 1929 and that of October 19, 1987, when the market recorded its largest-ever single-day loss: 23 percent.

The author, Barry Ritholtz, concluded that, historically speaking, October isn’t much scarier for investors than any other month.

Still, the history of market crashes provides regular fodder for financial journalists, reminding us that we never really know when the next disaster is coming, or how bad it will be. However, the pattern of “the bigger they come, the harder they fall” has repeated itself enough times that anyone who is paying attention should be wary of the current bull market.

We are now in the longest-running bull market in history, at nine-and-a-half years -- and no bull market has ever made it to its 10th birthday. While there’s no guarantee that this bull market will crash before it passes its 10th anniversary in early 2019, we do know that historically, the longest-running bull markets go out with a bang, not a whimper.

Experts, such as Nobel Prize-winning economist Robert Shiller, warn of the similarities between today’s market conditions and those that preceded the 1929 crash. “The word ‘gambling’ was used a lot to describe the market at that time, so it became vulnerable,” Shiller said in an interview on CNBC. “We're not exactly in that circumstance, but we do have a market that has surged since 2009, so there is something of that spirit today.”

To understand the potential dangers, we should look at the underlying vulnerabilities masked by the current market's massive gains. U.S. household net worth recently topped $100 trillion for the first time in history. However, actual U.S. household income has only recently climbed back to levels seen in 2007, before the financial crisis. This is another possible signal of the next market crash, new research from AJ Bell suggests.

"Household net worth cannot sustainably grow this much faster than incomes," Russ Mould, investment director at AJ Bell, wrote in a note to clients. "Assets have been bid up (and up), and at some stage, there has to be a chance that they correct, just as happened in 2000 and 2007."
Any of these seven other factors could trigger the next market crash

Interest-rate tinkering -- The Federal Reserve has been raising interest rates in response to increasing inflation. As risk-taking and leveraging have exploded, the risk is increasing that an interest-rate hike could trigger a domino effect, driving down the value of stocks and commodities.

Certifiably crazy world leaders -- The threats posed by countries like North Korea and Iran are very real and very unpredictable. Heightened political risks around the globe increase economic risks, according to studies by Rand Corporation and the World Economic Forum.

Cyber attacks and disruptions to the power grid -- Attacks by countries like China, North Korea, Russia and Iran are becoming more common. Major companies and governments have already fallen victim. Threats to our economy only grow as the attacks become more sophisticated, and as we become more and more dependent on technology, Director of National Intelligence Daniel R. Coats said in his recent Worldwide Threat Assessment.

Emerging narkets in distress or chaos -- Countries from Turkey to Argentina and South Africa are experiencing market and currency plunges, along with interest rate and recession woes, which could spread to other countries.

China could crack -- China has begun feeling the effects of tariffs, a trade war and a rising dollar. But a real-estate crash or defaults by local government-owned financing vehicles could be the breaking point and would impact our economy.

Trump might be impeached – Although our president would likely stay in office, the confidence in the bull market that shot up when Trump was elected could be undermined.

Perils of a too-tight labor market -- An incredibly tight labor market already has resulted in something as crucial as 911 emergency call centers not being able to get enough people to answer the phones. Prisons, meanwhile, are training inmates to be coders. What could possibly go wrong?
Bottom line: The current bull market isn’t going to last forever.

The danger is only compounded by investors’ tendency to not see the writing on the wall until it’s too late.

Shiller, the Nobel Laureate Yale University economics professor, famously warned of the dangers of the pack mentality.

"Errors of human judgment can infect even the smartest people, thanks to overconfidence, lack of attention to details and excessive trust in the judgments of others," Shiller said. These stem, he said, "from a failure to understand that others are not making independent judgments, but are themselves following still others -- the blind leading the blind.”

The message here is that, as you analyze your finances, make sure you have a “plan B” that safeguards a significant portion of your savings portfolio in safe and liquid financial vehicles. As for when to do this, my advice is "sooner rather than later." With so many warning lights flashing, you don’t want to wait until you’re a day late -- and many dollars -- short.

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