Is the market going to crash soon?
If you have found yourself asking this question and wondering where we will be in the next few months, or even by the end of this year, you’re not alone. If the COVID-19 pandemic has taught us anything, it’s that there is a lot we can’t control.
But if the stock market does crash, it won’t be the first time. Stock market crashes have occurred throughout history from time to time, and although this may not be a comforting thought, they are always unexpected.
Worrying about when the market will crash won’t help, but learning what to do before, during, and after it occurs will. My goal is to leave you with all the information you need to know if a stock market crash is on the horizon… and it very well could be.
This way, you can take that worry and turn it into productive action that will actually help you handle and even benefit from a stock market crash.
What is a Stock Market Crash?
A stock market crash is a sudden decline in the price of stocks, caused by a decrease in the value of stocks in a few, or many, industries that are driven deeper by fear. As value decreases and fear increases, people sell off stocks they own in an attempt to cut their losses, which results in a significant drop in the prices of stocks across the entire market.
Crashes vary in severity and length, that is, the amount of time it takes the market to recover and prices to rise again. If prices take a long time to recover, the economy can fall into a recession or even a depression.
Even though they don’t happen every year or even every decade, crashes are actually quite a regular occurrence throughout history. Not only are they regular but small crashes are necessary to “price-check” the value of stocks. And they can be good for investors like us who get great returns after buying wonderful stocks at bargain prices.
When Will the Stock Market Crash?
So, want to know when will the stock market crash next? The truth is, no one knows the answer to that.
The market is constantly moving and influenced by far more factors than we could possibly track. We can’t predict what it will do on any given day, let alone if it will crash tomorrow.
What we can do though, is take a lesson out of the history book and look at when markets have crashed in the past—even just last year—to better understand where we are at now and where we are headed.
Stock Market Crashes Throughout History
As I mentioned, we have seen numerous stock market crashes over the course of the last century. The most catastrophic of these crashes include the crash of 1929, which sparked the Great Depression, and the crash of 2008, which sparked the Great Recession.
When we look back on the crashes we have incurred in the past, we can learn from what caused them and get a better idea of whether or not the market is going to crash again.
For instance, in 1929, we learned that borrowing money to buy stocks is never a good idea. After all of these crashes, though, we learned that the market does, in fact, recover.
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One of the freshest memories of recovery has happened within the last year. After the market fell drastically in March of 2020, it was already back to pre-crash levels by the end of the year. While some of this recovery was lost at the start of 2021, the stock market has since rebounded once again to even higher levels.
The relief payments funded by the CARES Act led many investors to re-enter the market, contributing largely to the economic recovery. The long-term effects of this crash, however, are still unknown, so we can expect to see more market volatility in the coming months, and perhaps, another crash.
Can You Predict a Stock Market Crash?
While we can be on the lookout for signs that a stock market crash could be coming thanks to what we know about historic crashes, there is no way to be 100% sure that a crash will occur tomorrow, next month, or even this year.
As any experienced investor will tell you, you can’t time the market. Just because we don’t know when a stock market crash will occur, doesn’t mean we can’t prepare. We may not know if the car will break down or the basement will flood, but that doesn’t keep us from saving for a rainy day, does it? The same is true with preparing for a stock market crash.
In order to prepare for a market crash, you need to know how you should be invested both now and when it happens.
Will the Stock Market Crash in 2021?
At a time when most investors are pouring money into the stock market at an unprecedented rate, I personally am sitting on the sidelines waiting until the next stock market crash.
While I can’t answer exactly when the stock market will crash, I can share the reasons why I’m waiting for the next crash before investing heavily, as well as why I believe that I won’t have to wait very long.
The Market is Overvalued
Before March of 2020, the stock market was at an all-time high, and many investors were worried that the bubble would burst. Since the recession that hit that month, the market has climbed to an all-time high once again.
For any investor, this should be slightly alarming.
According to the Shiller PE ratio, which measures how overvalued the stock market is, prices have only been this high twice in the past 140 years. The first time they got this high was in 1929. The second time was in 1999. Both times, the stock market crashed soon after. Typically, the Shiller PE ratio is a good indication of whether or not we are headed for a recession.
An overvalued market is not only an indicator of a potential stock market crash but also incredibly difficult to invest in. As Rule #1 investors, we try to invest in companies we can buy with at least a 50% margin of safety, meaning that there is at least a 50% upside between the company’s stock price and its true value. When valuations are as high as they currently are, though, it becomes difficult to find any quality companies that exhibit this margin of safety.
The Best Investors Wait
While it may seem as though everyone else must be optimistic about the market right now if valuations are rising, this isn’t the case.
While novel, everyday investors are getting into “the game”, those with the most experience and the best track record are staying out of it. If you are wondering whether to invest now or wait, pay attention to these people.
If you do, you’ll notice that the investing gurus are sitting in cash and aren’t putting a lot of money into the market. This alone is a pretty good indicator that we may be headed for a stock market drop.
So, be patient. Most of the time, successful investing is a waiting game. Just as there are poor times to sell your stocks, there are poor times to buy them as well, and sitting on money (cash) while you wait for a better opportunity is often one of the best investing decisions that you can make.
“You don’t make money when you buy stocks. You don’t make money when you sell stocks. You make money while you wait.” – Charlie Munger
Buy Your Stocks on Sale
A better opportunity is when you can buy stocks on sale—for 50% or more off of their true value. And frankly, that’s almost impossible right now with the market valued at what it is. But the opportunity could be right around the corner…
As Rule #1 investors, we have to remember our 4 M’s— meaning, moat, management, and margin of safety. We must find companies that check off the 4 M’s and are solid enough to survive no matter what the market does.
If the market crashes in 2021, a lot of these wonderful companies will drop to below 50% of their true value. When a crash drives the price of these companies down, the opportunity for great returns is higher than ever.
In order to take advantage of this opportunity, though, you need to have cash on hand. If you have all of your money in the market before a crash, you won’t have any cash available to buy stocks on sale after a crash.
As much as possible, we want to sell in a bull market and buy in a bear market. This is why sitting on your money and waiting for a crash when valuations are as high as they are right now can be a very effective investing strategy.
What Should You Do Once The Market Crashes?
While you may have thought I had a crystal ball, I’m sorry to break it to you, but I don’t. Knowing a crash is coming wouldn’t help you anyway if you don’t know what to do with this information.
A critical part of being a Rule #1 investor is always being ready to buy should the right opportunity arise. And a market crash will surely provide the right opportunity. So, instead of dwelling on whether or not a crash is coming, here’s how to deal with a drop and take action when it happens.
Be Patient & Don’t Panic
If you’ve been expecting a market crash to occur, then this first piece of advice should be simple: don’t panic. Remember, this could be an incredible opportunity to invest in wonderful companies.
But don’t go throwing your cash into the market at the first sign of trouble, either. Be patient for the prices to fall low enough to where you can buy companies with at least a 50% margin of safety.
Stick By Your Companies
Buying stocks in a crash shouldn’t be a spur-of-the-moment decision. By the time a crash occurs, you should have researched the companies you plan to invest in thoroughly.
When the crash happens, don’t be swayed by low prices across the market.
Instead, use the cash you’ve been patiently sitting on to load up on the companies you know inside and out and can feel confident in their ability to not only survive the crash but thrive after it.
Be Ready for the Worst Case
As we have seen play out in the past, stock market crashes can have long-lasting effects, leading to recessions and even depressions. It may be years before the stocks you purchase during a crash will recover.
Remember that when you invest the Rule #1 way, you are investing for the long-term and that your patience will pay off. On the flip side, should the stock prices skyrocket back up, be prepared to sell and get back into cash.
How to Prepare for a Stock Market Crash
So, is the market going to crash again? Absolutely. But when? None of us can know.
In the meantime, the best thing you can do is be prepared and do your research to find wonderful companies. If you want to be fully equipped to handle the next crash with finesse, grab your Stock Market Survival Guide for an even deeper dive into what to do now so you can make the most of a stock market crash when it does land.
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P.S. If you're researching stock market investments, review these resources first:
