We are doing researching a possible stock market crash in 2022. Will there be a stock market crash and what could cause it?
Will there be a stock market crash in 2022?
The stock market is going to crash, that is inevitable. That may sound intense, but that is the truth. But whether there will be a stock market crash in 2022, we cannot say with certainty.
There are many reasons why the stock market could crash soon. Think of the high inflation, the extremely high valuations, and deficits in the international trade market. All these factors separately already pose a great risk. Put them all together in a situation as we know it today and the danger certainly seems to multiply.
Nevertheless, stock markets remain able to ignore reality for a long time and can therefore continue to rise for a long period. In this article, we are going to give 4 reasons why the stock market may crash in 2022. We call this crash the ‘Pandemic crash’.
How does a stock market crash occur?
A stock market crash has two sides. You have the psychological side and the economic side. Often, a stock market crash has many underlying economic problems, which causes investors to panic sooner or later.
In the end, the panic causes a stock market crash. This is the psychological side of the story. In an economy, you have to deal with people and therefore also with psychology. This is very much reflected in the stock market.
It is human behavior that causes extreme peaks and drops in stock prices. If the prices rise, everyone wants to benefit from this and the prices go up. Unfortunately, it can also go wrong and then panic arises, we often see an overreaction the other way.
Stock market crash 2022: The division of the stock market
Quartering, the very brutal punishment in which someone is pulled apart by four horses. A punishment in which death follows, but in one of the most horrific ways you can think of. So it’s bizarre that we make a comparison with this.
In our opinion,four factors separately are capable of causing a stock market crash, and unfortunately, these factors only reinforce each other. These factors do not just disappear, they are now even connected to the stock market. Each factor has chosen a fictional arm or leg.
The stock market is still rising because the horses are standing still. Now it’s waiting for the horses to startle, which sooner or later they will certainly do. Then we know what’s going to happen.
Below we discuss what we think these four factors are that will cause a stock market crash in 2022.
1. Stock markets are dangerously high
The first reason for a possible stock market crash in 2022 is that the stock markets are extremely high. In the chart below, the line shows the price of the S&P 500. As you can see, the current price is a lot higher than before the corona crisis (about 40%). This is the first indication that the stock market is currently overpriced.
Although it is not logical that prices rise by 40% in a short time, this is not the best method to say that the market is overvalued, because you only look at the price. To really say whether something is overvalued, you should always determine what the real value of an investment is.
We have therefore made the comparison between the market value and the intrinsic value. The intrinsic value is calculated based on of the average dividend yield. It is assumed that the S&P 500 is always worth about 50 times the dividend. You can see the outcome of this in the graph below. The reason why this is a pretty good indication is that dividends track a company's profits. And the price of a share is determined in the long term by the profit of a company.
In this chart, you can see very well that the 'intrinsic value' is more stable than the share price. You can also see that the share price rightly rose after the crisis of 2008/2009 because the real value also went up. Until 2020, there was no question of an overvaluation.
And then the pandemic hit. The share price collapsed because there was great panic. At the beginning of March (2020) this panic was already gone and the market was dominated by optimism. This optimism wasn't gone away so quickly, and the stock market has risen since then, while the intrinsic value we calculated hasn't risen. So the second indication of an overvaluation.
Gradually we can start to conclude, but we are not quite there yet. The biggest disadvantage of this method is that we calculate indirectly because we calculate with profit distributions instead of the real profits. But perhaps companies are consciously choosing not to pay too much dividend at the moment, to create an extra buffer. In short, we have to work with the profit instead of profit distributions, but that is not easy for about 500 different companies. Nevertheless, we are going to give it a try in the paragraph below.
We use the Shiller P/E ratio. This method is known as the Cyclically Adjusted P/E ratio (CAPE).
The CAPE ratio is calculated by dividing the price by the average profit of 10 years (moving average), adjusted for inflation. In this way, this ratio can be used to determine the likely future return of shares for 10 to 20 years.
You can also use the ratio to calculate whether a stock or index is undervalued or overvalued. In the graph below you can see the CAPE ratio.
Logically, you almost always pay the same amount for the profit of a company, yet in reality, this is not the case at all. On average you have a multiplier of around 15 and in recent decades this is slightly higher due to globalization.
But what stands out are the peaks and drops. Now you have to pay almost 40x the profit, which is extremely high. In the past, such a peak has been a sign that there is an overvaluation. Just look at 1929, a new high was reached then and we now know how this ended. This was followed by a violent stock market crash called black Thursday and was the beginning of the great depression.
A bubble that we recognize very well is the dot-com bubble. This bubble took place around 2000 and the CAPE ratio reached a new high during this period. Until the bubble burst and the stock markets collapsed.
We have now arrived in the present and it seems that fear is not illogical. When you look at the past, you know what's coming. Because until now, every peak was followed by a significant decrease. Based on the CAPE ratio, we now dare to say that the market is overvalued.
"History repeats itself, first as tragedy, second as farce."— KARL MARX
2. Stock market crash 2022 due to high inflation
The second factor for a possible stock market crash in 2022 is high inflation.
Inflation in the United States
Inflation in Europe is above the desired level, but in the United States, this is even more severe. In the US, consumer prices rose by as much as 6.2% last year . Inflation is at its highest point in 30 years.
The price increases per product over the past 12 months (up to and including October) looked like this:
As a result of these price increases, the workers have declined in purchasing power.
This inflation can also lead to even higher inflation. Trade unions are going to demand higher wages as compensation for rising prices. Companies, therefore, receive higher wage costs, and to compensate for this, they raise their prices themselves. In short, even more inflation.
Impact of high inflation on the economy
Still a fairly difficult situation. A problem that we can't just dismiss. This problem can also have an impact on the stock market. High inflation for long periods creates uncertainty. Some companies are less able to raise their prices than others and there are even companies that can no longer make a profit and go bankrupt .
Consumer uncertainty is also increasing due to inflation. Some employees do not easily get a salary increase and their purchasing power declines. Consumers are becoming afraid of this and are saving more. This reduced consumption is bad for the economy and corporate profits are falling. This causes unemployment to rise.
In short, there is high inflation and this is very dangerous. If this high inflation persists or increases, it can have a truly devastating reaction. The chain reaction with negative consequences is difficult to break and can therefore last for a long time.
3. Interest rates
For some time now, we have had extremely low to negative interest rates. The impact of this should not be underestimated, because interest rates are one of the most important factors in determining the value of an investment.
Warren Buffett once said: "Interest rates basically are to the value of assets what gravity is to matter." When you think about it, this is also very logical, we explain why below.
Impact of interest on valuations
Suppose the interest on your savings account is 10%. You would be much less willing to pay for a risky company because you can earn 10% per year almost risk-free. You are not going to pay 20 to 30 times for the profit of a company. It then only becomes interesting to invest in shares that you expect to yield around 15-20% profit per year.
But now interest rates are very low and investors are willing to invest in stocks and companies for a low expected return.
This is not even wrong in itself, because the intrinsic value of companies just increases. We explain how this works. But first, we call Buffett again, because how exactly do you calculate the actual value of a company?
“Any investment is worth all the cash you’re going to get out between now and judgment day discounted back."Warren Buffett
The interest comes into its own in "discounted back". A common method is that you calculate the future cash flows back using the risk-free return. You can determine this risk-free return with the interest rate on government bonds. Just look at the impact of this:
Suppose a company makes a profit of $1 million every year and you expect this to always remain the case. At an interest rate of 2% (and now also the discount rate), the company is worth about 50 million dollars, while the same investment is only worth 21 million dollars at an interest rate of 5%.
This is because the future cash flows are worth less at a higher interest rate, which also makes the value of an investment worth less.
Will there be a stock market crash if interest rates go up?
So we are talking about a weapon of mass destruction. Central banks have used interest rates a lot as a tool lately. At certain times this tool can be very valuable and tactical. Still, is it perhaps more convenient not to drop atomic bombs if there is no war? We already had historically low-interest rates before the pandemic.
It is better to use such weapons when you need them, for example after a stock market crash or during a financial crisis. Then you want to give the shares a boost. Not if the shares are already overvalued.
To answer the question of this paragraph, eventually, interest rates have to go up. Higher interest rates cause devaluation. This also applies to the stock market. The current overvaluation could cause a stock market crash in 2022.
4. Running Out of Everything
One of the biggest production innovations is the principle called Just in Time production. Through Just in Time management you ensure that you have all raw materials and other resources for production delivered almost exactly at the moment you need it .
Many companies now work with this system, to save storage costs and to remain agile, so that companies can respond to new market requirements. Nevertheless, it has now become clear what the danger of this system is. Worldwide there is a huge shortage of computer chips, building materials, and many other products.
Now we are really starting to feel the effects of the pandemic. Many deliveries and production stood still for a long time and that now has to be recovered. This is not so easy because the production companies in Asia have no stocks.
Panic at sea
In addition to having no stocks, we are not able to produce a very large part of the products ourselves. In recent years, we have become incredibly dependent on Asia. For a long time, less was produced in Asia, and the work in ports was all down.
Many of the goods we use here are imported from Asia using containers, but what if there is also a shortage of containers? As a result, the price of shipping containers has risen enormously, from 2,000 dollars to as much as 12,000 dollars per container .
So different problems come together on the side of production and then you are vulnerable. If a ship then decides to park in the Suez Canal, blocking the entire supply of products in Europe. Then you have a serious problem.
It is typical that it must first go wrong before we see the problems. All Western countries had too few stocks and we are not able to produce our products ourselves. Yet we only see the problems when a ship gets stuck. Even without a pandemic, we could have seen this coming.
So such a nice lean idea is capable of pushing the world into recession? Yes. This problem has a direct effect on what we can buy, produce, and what we can build. Some shelves will be empty and what we can buy will become more expensive.
As we've already explained, consumers find rapid increases in prices scary, and they won't like empty shelves either. Companies will also make less profit and this will affect stock prices.
The shortage of raw materials is also one of the causes of high inflation because it causes an increase in the prices of some products. In an economy, everything is linked and this is an example of this.
What do the experts say about the 2022 stock market crash?
We're not the only ones worried about a stock market crash in 2022. Below we explain how several experts think about it.
Michael Burry predicts stock market crash 2022
Mr. 'Big Short' sounds the alarm. Michael Burry bet against the housing market in 2008, which has been the cause to make a film and a book about it, called The Big Short. He was one predictor of the credit crisis.
Of course, we take his opinion seriously when he warns us of the next crisis. And he does, several times. Michael Burry even talks about the mother of all crashes on Twitter.
Jeremy Grantham predicts stock market crash 2022
Jeremy Grantham, a legendary investor, like many other stock market experts, is afraid of a stock market crash in 2022. He expects the runaway stock market to hit the wall soon.
Grantham has told CNBC that stocks in the U.S. are in a bubble, even larger than those of 1929 and 2000. This is worrying because Grantham is well worth listening to.
He predicted the collapse of the dot-com bubble and the collapse of the real estate market in 2008. He is also responsible for approximately $60 billion as a hedge fund manager.
Robert Kiyosaki predicts stock market crash 2022
The well-known investor and author of the book Rich Dad Poor Dad, Robert Kiyosaki, also predicts a stock market crash in 2022. Probably followed by a crash of the crypto market. In addition to stocks and crypto, he also predicts that the price of gold and silver will fall.
Kiyosaki's shared his prediction on Twitter. He said the stock market is currently in a dangerous state. Kiyosaki, therefore, advises investors to be extra careful.
Conclusion - Stock market crash 2022
We know, this article seems very pessimistic. Nevertheless, we mainly used facts for writing this article. The facts speak for themselves. We are in the longest bull market ever, while the economy is not in a good shape.
In our view, the stock market is currently overpriced and things like inflation, persistenly low-interest rates, and production deficits will, in our view, be fatal for the stock market. Bubbles do not disappear gradually, bubbles burst. They always do.
These four things (the quartering) will, in our opinion, cause a stock market crash in 2022. The situation we are now in cannot simply be restored and it even seems that a stock market crash must take place before the economy can recover. In this way, the economy can "rise from the ashes like a phoenix".
The current economy is extremely complex and it is not possible to say when something is going to happen and why. Countless factors have an influence, but you can never take everything into account.
Of course, there are other developments that you might be able to think of, such as Evergrande. We are also aware of this. Yet we did not talk about this in the article. We have chosen this because we only want to talk about the underlying causes of a possible stock market crash.
A company gets into trouble and the consequences of this can be huge, but there are deeper causes that cause such a company to get into trouble.
Please note: the stock market crash 2022 is our opinion. Of course, this does not mean that this is certainly going to happen.
Frequently Asked Questions (FAQ)
Sooner or later there will be a stock market crash, but whether this will happen in 2022 is the question. Currently, there are plenty of reasons why the stock market could collapse in 2022. Currently, it is almost undeniable that the stock market is a bubble, but when the bubble will burst is always difficult to predict.
It may be a bit selfish to say, but a stock market crash also has its advantages. It is a good time to buy shares in good companies. But what are good stocks that you can buy during a stock market crash? The answer could be dividend stocks. Since companies that pay dividends are almost always profitable and they have already proven themselves. These stocks are therefore the perfect investment to put your money to work during periods of high volatility.
1. Cox, J. (2021, November 10). U.S. consumer prices jump 6.2% in October, the biggest inflation surge in more than 30 years. CNBC. https://www.cnbc.com/2021/11/10/consumer-price-index-october.html
2. Aratani, L. (2021, November 24). What is happening with inflation in the US, and how worried should you be? The Guardian. https://www.theguardian.com/business/2021/nov/24/what-is-inflation-meaning-explained-us-economy-what-happens-how-worried
3. Goodman, P. S., & Chokshi, N. (2021, October 22). Global Shortages During Coronavirus Reveal Failings of Just in Time Manufacturing. The New York Times. https://www.nytimes.com/2021/06/01/business/coronavirus-global-shortages.html
4. de Waard, P. (2021, March 30). Globalisation is taking its own way into economic recovery: price explosion in raw materials can lead to 'bloodbath' among SMEs. De Volkskrant. https://www.volkskrant.nl/economie/de-mondialisering-wreekt-zich-in-economisch-herstel-prijsexplosie-grondstoffen-kan-leiden-tot-bloedbad-onder-mkb-bedrijven