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Will There Be A Stock Market Crash In 2014?

|Includes: IVV, SPDR S&P 500 Trust ETF (SPY)

Will there be a stock market crash in 2014?

This is a frequently asked question. Let's start by defining a "crash".

According to Investopedia, a stock market crash is "a rapid and often unanticipated drop in stock prices. A stock market crash can be the result of major catastrophic events, economic crisis or the collapse of a long-term speculative bubble."

The difference between a crash and your run of the mill bear market is the time it takes it to go down. Crashes happen a lot faster and are more rare.

A market "Correction", on the other hand, is a market downturn in the magnitude of 10% or greater.

How frequent are these?:

From the American Funds website:

image

It looks like we get a 10% correction about once per year, yet the last one was October 2011, 2.5 years ago.

We get a 20% decline about once every 3.5 years, with the last one being March 2009, over 5 years ago.

So those calling for a market correction or market crash are justified in the aspect that we are overdue for both. In fact, this has been one of the longer bull markets without a meaningful correction.

But, that by itself isn't the main reason markets are likely to correct. The main reason is that the US stock market is overvalued by most standards, and especially these two more reliable ones.

Shiller p/e: 25.62 Median: 15.91 (source: multpl.com)

Market Cap to GDP: 117.3 % Fairly Valued: 75-90% (source: gurufocus.com)

Both of these are well over historical norms.

In summary, markets can continue to go up a long time after being overvalued (late 1990's). That may be the case here, especially with low inflation which is more supportive of higher valuations.

But, we are overdue a 10% and 20% decline and markets are overvalued by the above standards. This does make a correction more likely.

Often the catalyst for these corrections are not fully understood until after the event happens. So looking for a catalyst may not be helpful.

Instead, remain disciplined and unemotional and great investment opportunities may present themselves in the near future.

If you own a broad market index like SPY or IVV, or any stock for that matter, understand why you own it and have a plan.

Will there be a stock market crash in 2014? No one knows. Will there be a correction in 2014? History says that it is likely.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.