Warnings That A Massive Stock Market Crash Is Imminent

NEW YORK -- What's the first thing that comes to mind when investors hear the word October? Ghoulish Halloween costumes? Nope. Memories of World Series heroics from slugger Reggie Jackson, better known as Mr. October? Nope. Stock market crashes? Bingo!

When it comes to wealth suddenly disappearing, October can be diabolically frightful. The stock market crash of 1929 that led to the Great Depression occurred in October. So did the 22.6% plunge suffered by the Dow Jones industrial average in 1987 on "Black Monday."

The scariest 19-day span during the 2008 financial crisis also went down in October, when the Dow plunged 2,675 points after investors fearing a financial collapse went on a panic-driven stock-selling spree that resulted in five of the 10 biggest daily point drops in the iconic Dow's 123-year history.

October is "known as the jinx month because of the crashes," according to Stock Trader's Almanac, the bible for seasonal stock market statistics and trading strategies.

But despite its inability to shake its reputation as the most likely period for stocks to plunge further and faster than the other 11 months of the year, October's overall performance is not as bad as its mega drops would suggest. In the past 20 years, October is the third-best-performing month, posting average gains of 1.8% and finishing up 70% of the time, according to Bespoke Investment Group. It ranks seventh over the past 50 years and No. 8 in the last 100 years.

Still, it is human nature to wonder if this is the year that October will trick rather than treat investors. Just as folks in New Orleans wonder if the next Katrina is going to hit Hurricane Alley each storm season, or a kid that had a bad first experience at the dentist dreads the cavity-filling next appointment, investors who associate October with financial pain can't resist running what-if scenarios through their minds each fall.

Due to its dark past, October conjures up images of financial ruin, real or imagined.

"Stock market crashes are a lot less frequent than hurricanes," says Dan Seiver, an economics professor at Cal Poly San Luis Obispo. "Crashes are rare occurrences that fall somewhere between a Category 5 hurricane and a comet colliding with Earth. They affect our psyches. We tend to mentally code a crash as a zero probability or blow it out of proportion."

What will October bring this year? Is there anything out there that could cause another October crash, a free fall so big that it gets everyone's attention?

Edward Yardeni, chief economist and investment strategist at Yardeni Research, brought up the crash topic in a recent note to clients.

Odds of a crash this October are low, he says. Most of the apocalyptic market scenarios, he argues, are well-known and, as a result, priced into the market. But in the next breath Yardeni says never say never.

"Crashes usually happen when people are not expecting them," says Yardeni. He says stock market crashes are often born from the seeds of complacency, a too-frothy market, a policy mistake by central bankers or politicians and fear of a coming depression. More often than not, he says, they come "suddenly out of the blue."

Yardeni first ticks off for clients what is unlikely to bring the stock market tumbling down. Not everything is working in stocks' favor, he admits. Europe is in recession. China's economic engine is slowing down. U.S. corporate profits could be turning negative this quarter as growth slows.

But that type of bad news is not the stuff of which crashes are made, he argues. Offsetting the negative news backdrop is all the stimulus being thrown at global financial markets and economies by central bankers in the USA and Europe. The Federal Reserve and the European Central Bank last month announced new bond-buying programs known as quantitative easing, or QE, to try to boost stock prices, the economy and jobs market.

Those aggressive moves make bad outcomes in the market less likely, Yardeni argues.

"The QE-to-eternity policies of the ECB and the Fed have greatly diminished the odds of an imminent Lehman Bros. moment," says Yardeni, referring to the massive financial fallout caused by the unexpected bankruptcy filing of the then-Wall Street titan in September 2008.

Yardeni says stocks could get crushed if the U.S. economy falls off the so-called fiscal cliff, the potentially growth-killing combination of tax increases and government spending cuts that kick in Jan. 1 unless Congress acts to avert it. But that won't happen until next year, which makes October an unlikely time to sell off on fiscal-cliff fears, he says.

But there is something that worries Yardeni: war.

"If something wicked this way comes in October, it is most likely to be war in the Persian Gulf," he told clients. Tensions between Iran and Israel are quite high at the moment. Saber-rattling over Iran's alleged pursuit of nuclear weapons and a potential Israeli military strike to halt Iran's nuclear ambitions have the world on edge.

A war, of course, would create global instability and fear. Oil prices would likely skyrocket, sapping what little growth there is out of the economy. The reaction of investors would likely be to flee risk, which is another term for selling stocks. "It would," Yardeni says, "make a bad situation worse."

A stock market crash is inevitable, but it is unlikely to happen this month, counters Harry Dent, author of The Great Crash Ahead and editor of newsletter Boom & Bust. Dent has been predicting financial Armageddon for a while now, but his warnings have yet to be realized.

A crash is coming, maybe as early as the first quarter of next year, Dent says. Stocks will first enjoy their usual election-year rally and even make new all-time highs. But he's predicting the market will suffer an even worse decline than the meltdown in 2008-2009.

The cycle of bubble and crash, bubble and crash that began with the technology stock rout in 2000 followed by the real estate and credit bubble that collapsed a few years ago has now morphed into what Dent calls the "Last Bubble" -- a debt bubble fueled by the easy-money policies of the Federal Reserve and other central bankers around the world who are trying to stave off financial disaster.

"We are in the highest-risk period since the 1930s," says Dent. "When you inject trillions of dollars into the economy, everything bubbles up. Stocks. Real estate. Commodities. Oil. Gold. In the next crash, everything is going to fall in value."

And Dent says it won't necessarily take a war to trigger a downward spiral in stock prices. The domino effect could be triggered by a financial crisis in Europe, or what he calls the "No. 1 threat." A megaplunge could be caused by a "technological freak-out" on the stock exchanges, similar to the May 2010 "flash crash," that sparks a selling panic. The bursting of China's real estate bubble could also do the trick, he says.

If those major economic engines stall, it will spell major trouble for U.S. exporters. With fewer sales overseas, earnings of U.S. companies, which have been driven more and more by foreign growth in recent years, will tank. And a stock market that now appears attractively valued at roughly 13 times earnings, will suddenly feel expensive, Dent says.

"When stocks are selling at 13 or 14 times earnings (just below the long-term average of 15), it says things are good," says Dent. "But things are not good. We have the greatest debt bubble in history.

We will see a worldwide downturn. And when you are in this type of recessionary environment stocks should be trading at five to seven times earnings."

The coming stock market plunge, Dent says, will be sizable. More sizable than the last downturn in 2008-2009. The Dow could fall as much as 60%, he says.

"The Dow will hit a new low of 6000 or lower," says Dent. "Unfortunately, that is what investors have to look forward to."

Dent's doomsday scenario, however, is unlikely to come to fruition, says Cal Poly's Seiver.

Investor sentiment is far from euphoric despite the market's run-up to five-year highs, and most individual investors have not participated in the rally, Seiver says. Also working against Dent's crash scenario is the fact that stocks are fairly priced relative to history.

"I don't think we will get another crash this year," Seiver says. "The odds are against it."
But, when asked what could potentially trigger a crash, Seiver said it's impossible to rule out something unexpected happening that could spark a chain reaction of selling.

"It would take some kind of bolt from the blue," says Seiver. "Something we didn't expect. Some unforeseen event. Something that snowballs. Something that happens to make the ball start rolling faster downhill."

Something like a Category 5 hurricane or a comet hitting Earth.