Is a stock market crash on the cards?

All investors want to avoid a stock market crash. But the big question is, when will the next one be? Let’s take a closer look at the possibilities.

Major event-induced crash

Geopolitics should play a role in every investing strategy. After all, wars, or even just trade wars, rising tensions, and politics turmoil can have a profound impact on markets.

Russia’s February 2022 invasion of Ukraine resulted in a considerable stock market correction. Unfortunately, I was one of many on the wrong side of that crash.

But what major events could impact markets going forward? Well, there’s obvious concerns about an escalation of the war in Ukraine and the potential use of tactical nuclear weapons by Russian forces — a move that could trigger a response from NATO.

An escalation could also involve China supplying Russia with lethal aid, something that could potentially turn the tide of the war. It would also likely cause Western powers to increase their aid to Ukraine.

There’s also concern around Japanese bonds, and how the Bank of Japan could extradite itself from the current situation without damaging markets. Equally, the US debt ceiling is likely to be reached in just a few months — a negative outcome here would do untold damage.

Of course, these are all possibilities this year. The environment is inherently more risky than previous years.

Market correction

Markets can crash or correct for other reasons. Valuations, economic data, further interest rate rise, and commentary is part of this.

Here, I have very different forecasts for UK and US markets.

In the UK, stocks are still trading at relatively low valuations. There are long-term reasons for this, including pessimism around Brexit, as well as short-term concerns such as negative economic forecasts.

However, the latter is looking increasingly positive/less bad. And with valuations already low, and earnings season not providing many downside shocks, I don’t see the UK market falling further.

But in the US I’m expecting to see some downward pressure. Firstly, it looks like interest rates will have to rise more in the US than the UK — for one, the UK economy may be too weak to sustain many more rises.

The US economy just keeps surprising to the upside — jobless claims data has come in stronger than expected for 13 of the last 14 weeks. Stocks may underperform as interest rates rise. That’s because bonds, certificates of deposit, and other vehicles pay more attractive yields when interest rates rise.

Valuation is another part of this. Stocks on the S&P 500 broadly trade at 50% premium to their UK-listed peers. One reason for this is a higher density of growth stocks. But US stocks are just more expensive, and that means there’s more room for them to fall.

But I’m not alone here. Legendary British investor Jeremy Grantham — the co-founder of GMO, an investment management firm established in 1977 — is forecasting that the S&P 500 will fall 16.7% during 2023. That would reflect a 20% real decline for the year as a whole. 

For me, UK stocks look like a good — and possibly safer — option. A stock market correction, or crash, is entirely possible, but I think UK stocks don’t have as far to fall as their US counterparts.