Four Reasons for Potential 2007 Stock Market Crash2006
was profitable for stock investing, but that may abruptly end says Commodity Futures Broker Tom Reavis.
According to expert futures trading broker Tom Reavis, 2006 was an exciting and profitable year for stock investing but there is good reason to believe that may soon come to an end in 2007. Reavis, president and CEO of Worldwide Futures Systems, a commodity futures trading firm that develops alternative investment strategies for clients, cites four key indicators that foretell a potential disaster for the stock market in 2007.
1. The S&P 500 has a very high correlation to the Housing Market Index (HMI) released by the National Association of Homebuilders. There is a lag time of 12-15 months. When the HMI index goes up, the next year the S&P Stock Index typically rallies. When the HMI falls, the next year the S&P 500 typically declines. The Building Index last peaked in October 2005 and reached its lowest level in 15 years in September 2006. If history repeats itself, the Stock Indexes are about ready to plunge.
2. Money managers generally spread their investments between stocks and bonds. One way of judging if stocks are too pricey is to compare them against the performance of bonds. The argument being that if the difference becomes too great investors will sell stocks and buy bonds. The surge in stocks of 2006 has not been matched by the increase in bond yields. In fact, stocks are rarely as overvalued to bonds as they are right now. The current gap has only been seen one percent of the time. This signal has indicated the two largest market corrections of the last decade.
3. Reavis said he was taught to "follow the guys driving the big cars." In other words, what are the big boys doing? Currently short positions held by large commercial traders are at a level so high that it has only been reached twice before. The first was in 2001 before the S&P 500 plunged 38 percent and again in late 2004 before prices fell in 2005.
4. Mutual fund managers are very short on cash. Funds are allowed to keep cash reserves instead of stocks and bonds. The percentage of cash that they have on hand is often a good indicator of what might happen in the stock markets. With present interest rate levels smart managers should be maintaining at least 7 percent cash position. Current cash position in stock mutual funds is running just over 4 percent. This means that there is very little cash left to drive prices higher, and if the market does head south, mutual fund managers would have to sell stock to cover redemptions. This would drive stocks even lower. The last two times that cash hit this low level the stock market plunged, first, in 1981 before a two year market slump and again in 2000 before the last big bear market.
To protect against a potentially substantial drop in the stock market, diversify with alternative investments with very low correlation to standard stock and bond portfolios
