Why The Market May Crash

Markets

Apr 17

Ironically, the market may be more likely to crash (again) as the economy reopens. In order to understand why, it helps to think about a range of scenarios:

  1. Scenario A. Best Case: Things go back to normal quickly.
    We can imagine in the best case things go back to normal quickly. There are not any rolling shut downs, economic activity resumes to the previous levels, etc.
  2. Scenario B. Moderate case: Things go back to normal slowly but rolling shut downs are avoided and there are not lasting changes.
  3. Scenario C. Worse Case: Things go back to normal slowly and there are more likely rolling shut downs, there is a new normal, but many economic activities never recover.

Everything coming out is suggesting scenario B or C is more likely then A. There are several areas of life that are unlikely to return to normal for a long time

  • Airlines and flying. Most are not going to want to fly, and even those that want to fly may have nowhere to go as different countries battle the virus on different timelines and have different quarantine measures.
  • Cruise ships. It is clear that major changes have to take place in this industry.
  • Sporting events. The risk of a single asymptomatic carrier will likely prevent events with significant crowds until a vaccine is developed.

Of course, the stock market is only a small fraction of the total economy and much of it may not be exposed to activities that that have lasting change. As for why the market may crash is that today there is still a lot of uncertainty: uncertainty allows for weighting of better outcomes. As the economy reopens and activity doesn’t resume then certainty for a poorer outcome could become more clear. As for the counter-argument, if airline traffic resumes quickly and rolling shutdowns are avoided then that would point more toward better outcomes.

I really do not know and fortunately knowing is not needed to trade this market. But, it is worth keeping in mind this may be a case where everyone wants to reopen the economy for the market, and the market has other ideas.

As of writing, the market is up several percent and look strong.

About the Author

The author is passionate about markets. He has developed top ranked futures strategies. His core focus is (1) applying machine learning and developing systematic strategies, and (2) solving the toughest problems of discretionary trading by applying quantitative tools, machine learning, and performance discipline. You can contact the author at curtis@beyondbacktesting.com.

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