History has taught us that a stock market top occurs when there’s euphoria among investors. We have seen this over and over again. And you don’t need to go too far back in history to see it in the making. Just look at the current collapse in the price of Chinese stocks.
Stock Market Top in China
Chinese stocks had a solid run to the upside on the backdrop of very weak fundamentals. After years of accelerated growth, the Chinese economy is slowing down and the many social problems that growth created are emerging. But the stock market rise caught the attention of people from all walks of life in China and people jumped into that market.
Not too long ago, I remember seeing a video on a very well-known financial news channel where the news story talked about “rural investors” (a nice phrase for farmers) getting involved in stocks. In the video, a farmer who’d turned into a stock trader said, “It’s a lot easier to make money from stocks than farm work…” (Source: CNBC, June 9, 2015.)
With this said, please look at the chart below.
Chart Courtesy of www.StockCharts.com
Chinese stocks rose astronomically. Now they have collapsed. What happened? The stock market rose on euphoria. And after only a slight decline, panic struck and investors fled. To fight the decline in the Shanghai Stock Exchange, over 1,000 big public companies halted trading in their stocks and investors who were big shareholders of individual companies were banned from selling their positions. Talk about desperation—talk about government invention. Whatever happened to free markets?
Euphoria in the U.S. Stock Market
Unfortunately, the situation with the U.S. stock market isn’t very different. After years of rising stock prices, fueled by the Federal Reserve’s easy money policies, I believe we are in a euphoria state when everyone is getting involved and no one is really paying attention to the fundamentals.
Consider this; a few days ago, I saw an interview on TV where the hosts were talking to the 2014 Playmate of the Year, Kennedy Summers. She has turned into a day trader now. In her words, “I look for volatility and I look for volume…” (Source: Fox, July 1, 2015.) And she is encouraging other Americans to get involved with stocks. Her reasoning being, “…I made $200 in one minute just by clicking a button.”
What Should Investors Do?
In the first six months of this year, key stock indices like the S&P 500 and the Dow Jones Industrial Average have been flat, if not negative. Investors, despite severe optimism, haven’t been able to take them higher. And I believe this is because the smart money has been quietly selling stocks. They’ve made their money since 2009. As stocks move sharply higher, it’s time to protect those profits.
Dear reader; it is impossible to predict exact market tops and bottoms, but I truly believe we are closing in on a market top. The bullish sentiment and “new” traders coming to the market make my conviction even stronger. Stocks are near their highest level in history. But corporate earnings are declining, corporate revenues are contracting, and the U.S. economy contracted in the first quarter of 2015. The fundamentals do not justify current stock prices.