Stock Market: Why a 1987-Style Collapse Is in the Works

Stock Market Foretelling CollapseIn today’s stock market, there is no fear. Investors are far too complacent…and that’s very dangerous.

Stock Market Analysts’ Rosy Predictions

Those who try to predict the direction of equity markets are outright optimistic. They don’t see risks whatsoever.

Currently, the S&P 500 trades near 2,100. But for the first quarter of 2015, corporate earnings and revenue are expected to decline at the fastest rate since 2009. To Barry Bannister, an analyst at brokerage and investment firm Stifel, declining earnings and declining revenue do not matter. He expects the S&P 500 to soar to 2,350…that’s about 12% higher than where it sits today. (Source: Bloomberg, March 24, 2015.)

If expecting key stock indices to soar nearly 12% when earnings and revenues are declining isn’t euphoria, then I don’t know what is. When earnings decline, stock prices decline. This is basic economics.

Investors’ Optimism Extends

The chart below is very important; it shows the sum of money invested in funds that bet against a stock market decline.

Total Assets Rydex Bear Chart

‘Total Assets Rydex Bear Index Funds, 1999–2015,’ Chart courtesy of StockCharts.com

Money invested in bearish stock market funds (those are funds that bet the stock market will fall) sits at its lowest level in more than 15 years!

Investors are buying into the optimistic forecasts of analysts and losing sight of the growing risks in the market. When everyone is on one side of the trade, you have to be cautious.

Stock Market Bubbles Good for Economy?

The optimism towards equities is not limited to the U.S. It prevails across the globe.

The Japanese stock market now trades at its highest level in 15 years. The reason behind the rally in the Japanese market: the Bank of Japan is buying stocks and printing money. The fact that the country is back in recession again doesn’t seem to matter.

And government officials in Japan are outright bullish on stocks, talking the market up. Japan’s economic minster, Akira Amari, was quoted as saying, “If recent stock gains are signs of a mini-bubble, this is something I would welcome.” (Source: Reuters, April 9, 2015.)

Will the Bull Market Continue?

Looking at investor complacency across the globe, analysts predicting higher equity prices, and central banks buying and talking up stocks, I can’t help but be skeptical.

I have seen three major stock market crashes in my lifetime: the collapse of 1987, the tech bubble of 2000, and the crash of 2008/2009. They all had two things in common—outright optimism towards the stock market and a lack of fear among investors. Fear is measured by the VIX and the amount of money investors have in bearish stock funds (both of which are now at a record-low) along with the consensus of stock market advisors (which is near a record-high again).

Very few analysts and economists, yours truly excluded, are worried about stock prices. Actually, I’ve never seen such optimism toward stocks as what exists today. Fundamentals aside, this is very concerning.