Wednesday, May 19, 2010

US Stock Market Crash Predictions (And What They All Mean For Us)


Two recent, independent reports predict a US stock market crash this year.

In the May 13 Fortune article entitled, “Are stocks about to crash?”, Gluskin Sheff economist David Rosenberg cites high stock prices and rising volatility amid a still-weak economy as signs of an impending stock market crash. Rosenberg has gained some credibility in the past few years for being one of the few who was able to foresee the recession in 2007, even before the full extent of the financial meltdown became clear. He further suggests to clients that “it's time to take chips off the table and brace for the breakdown.”

In a separate article in Daily Finance on May 15 entitled “Why the Stock Market Could Crash This Year”, Charles Hugh Smith lists vulnerable global corporate profits and the US economy’s shaky fundamentals as the primary reasons for the stock market’s crash this year.

The article points out that the weakening of major developing economies like China and the increasing strength of the US dollar against other currencies will continue to put pressure on the profitability of big US firms who are heavily reliant on overseas revenues.

The article also cites a decades-old analysis of the stock market crash and the resulting Great Depression in 1929. Just before the crash, the stock market reached record highs amid a “fundamentally unsound” economy as shown by these “critical weaknesses” that were identified in the study:

1. Unequal distribution of income
2. Poor corporate structure
3. Poor banking structure
4. The dubious state of the foreign trade balance
5. The poor state of economic intelligence

The article argues that given the connection between these five issues and the stock market crash, and after establishing that all five indicators are true today, a stock market crash is imminent this year.

What does this all mean for the Philippine stock market and your stock investments? Our economy, for good or bad, is still heavily reliant on the US economy. Looking at the comparison between the PSEi (PCOMP, yellow) and the S&P 500 Index (SPX, green) in the past three years in the image below, we can very clearly see how closely the former tracks the latter; also note how changes in the PSEi tend to be more pronounced (greater increases and decreases) than changes in the S&P 500. What this means is that if you believe all the arguments presented by the two articles and you’re convinced that the US stock market will crash this year, then you should sell all of your local stocks because what will happen to the Philippine stock market will be much worse.

Image from

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