Why Goldman Is Warning about a Stock Market Crash

 In Bond Investing, Personal Finance

Stock Market

The stock market has long been the go-to solution for anyone hoping to build wealth. However, the fact remains that playing the market is a gamble, and it can take a downturn very quickly.

If you’re surprised when the market tumbles, you might lose more than your shirt in the process.

More and more banks and financial institutions are taking a bearish stance to investments, and even pundits like Goldman Sachs’ strategist David Kostin are warning about a stock market crash.
Bond Investing Fundamentals

The Rising Stock Market Threat

In early May 2016, David Kostin appeared on CNBC with a dire warning. “Defense makes sense,” he said. “Basically, it’s a tough market.” That seems to fly in the face of market performance for the past few months, although savvy investors have already noticed the shifting stances of other major investment firms, banks, and individual investors.

Consider the fact that Warren Buffet recently divested his firm of a significant percentage of US stocks, and put that capital into gold. JP Morgan and Bank of America have also taken similar steps.

According to Kostin, 35 out of 53 tech companies failed to make their margin (experienced margin declines) and coupling that with the extremely high stock valuations today, there’s good reason to worry.

It’s time to go on the defense, Kostin said again. “Stock valuations are higher than they have been in 40 years,” he added.

Reasons for Playing Defense

There are quite a few important reasons to go on the defense here in order to avoid a potential stock market crash. Consider the fact that almost all stocks are valued higher than they ever have in history.

Even the median stock is trading within the 99th percentile historically speaking. While that might sound like good news, understand that the law of probability points to a dramatic downturn.

Shifting sentiment is another consideration here. For instance, during the first quarter of 2016, the S&P 500 rebounded, and futures positions were net short. This is an example of low sentiment. The situation has reversed today, with a high sentiment rating and a change from a bullish to a bearish market.

There’s also the possibility of political instability adding to the potential for a stock market crash. The current run-up to the US presidential election has been anything but normal, with the two frontrunners actually being the two least popular candidates of all time.

No two candidates have ever had lower popularity rankings in the polls. This leads to an incredible amount of uncertainty in the market, which you can see by looking at the S&P 500 index. In a normal election, the index remains pretty much range-bound until the elections come up.

This year, equity valuations are already being affected by uncertainty.

Finally, let’s not forget about economy growth concerns. They’ve fueled most of this decade, and while they’re dormant now, they’re likely to rear their heads again at almost any point. When that happens, things will take a serious tumble.

These are just the tip of the proverbial iceberg in terms of signs that you should be taking a different tack with your investing. In fact, rather than stocks, it might be wisest to put your money into bonds right now.

Why is that?

Simply put, you can earn steady corporate bonds yields instead of buying stocks from the top. Stocks and bondsare very, very different, and knowing how to use both to your financial advantage is essential.

Why Turn to Bonds?

As any investor worth his or her salt should understand, stocks give you an ownership share in a business, while bonds put you in the role of a lender. Both are subject to market fluctuations to an extent, but bonds are much more insulated against the shifting winds of financial change than bonds are.

There’s also the way in which each vehicle earns money to consider.

For instance, stocks let you earn based on the performance and profitability of the company. Bonds, on the other hand, let you earn based on interest (like any other lender). The Fed is more than likely about to raise interest rates this year.

In fact, there are likely going to be two rate hikes in 2016. That will have a positive effect on bonds, but a negative impact on stocks, as more businesses face higher interest rates on loans and their profitability drops in accordance.

Current market conditions might make it look like stocks are the best bet. After all, with valuations this high, it seems like the only people not likely to make money are those who don’t put their money into the stock market in the first place.

However, that’s deceptive. Take a hint from the fact that Goldman Sachs is changing their stance, and they’re only the latest in a long line of firms changing from a bullish stance to a bearish one.

Simply put, the market is so high right now, there’s no room for movement other than downward. Buying when stock valuations are at their highest is a sure way to part yourself from your money, and leave you holding the bag in the face of a stock market crash.

What will happen to your wealth when the market corrects itself and those valuations drop back to something a bit more realistic? You’ll be left with pennies on the dollar – a net negative for your investment.

By investing in bonds, instead, you’re able to go on the defense. You’ll find that you can build your wealth significantly over the course of five, 10, 20 or even 30 years with bonds (particularly if you’re a Millennial looking to build a nest egg for retirement, or hoping to find a way to pay for school for your children).

When huge financial giants who can weather much greater financial instability than the average individual investor start changing their behavior so drastically, it’s time to pay attention. Go on the defense and protect your wealth. Don’t let the inevitable stock market crash looming on the not-so-distant horizon reduce your wealth to nothing.
Bond Investing Fundamentals

Sergey Sanko
Sergey had started an IncomeClub after years of being an investment advisor for high affluent investors and managing fixed income securities. He is the lead investment advisor representative and holds a Series 65 license. Sergey earned his Executive MBA degree from Antwerp Management School.
Recommended Posts