Stock market crash: these 2 warning signs make me anxious

As global stock markets surge to new record highs, I worry about herd behaviour before a stock market crash. Here are two examples.

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Globally, share prices keep on surging. The US S&P 500 index yesterday clocked its 29th closing high in 2021. The STOXX Europe 600 index keeps hitting fresh records. The FTSE All-World — a global index — hit another record high this morning. This is great news for shareholders. But have markets risen too far, too fast?

Amid all this euphoria, I nervously recall one wise quote from billionaire investor Warren Buffett: “Be fearful when others are greedy and greedy when others are fearful.” Just how long until the next stock market crash? These two warning signs have me worried today.

Stock market crash sign #1: meme/Reddit stocks

During late-stage bull markets, company fundamentals go out of the window. What remains as a driving force is pure sentiment. And the momentum created by relentlessly positive sentiment can drive prices to bubble levels prior to a stock market crash.

For example, take the share prices of ‘meme’ or ‘Reddit’ stocks. For instance, GameStop Corp (NYSE: GME) stock has been on a wild roller-coaster ride in 2021. From a 52-week low of $3.77, GME stock ended 2020 at $18.84. So far in 2021, it has hit three huge peaks and troughs, exploding to a record of $483 on 28 January. Driven by crowds of private investors acting in concert, I’ve rarely seen such massive price volatility since 1999/2000. Then, the US stock market crashed spectacularly in March 2000. I expect this bubble in meme/Reddit stocks to go the same way in due course.

Warning sign #2: SPACulation (and electric-vehicle stocks)

My second sign of euphoric speculation is SPACs (special purpose acquisition companies). These ‘blank cheque’ shell businesses have no commercial operations. Instead, they list on a stock market and use investors’ cash as a war-chest to acquire private companies. The problem with SPACS is it seems they have gone from being one useful alternative to heavily regulated IPOs (initial public offerings) to being a bubble. According to Refinitiv data, almost 500 SPACs with over $140bn in assets were chasing deals at end-April. In a market this crowded, it is inevitable that bad deals will follow (because prices become frothy and widely inflated before a stock market crash).

Take Lordstown Motors (NASDAQ: RIDE), which floated last October via a SPAC takeover. On 11 February, shares in this maker of electric pick-up trucks were riding high, closing at $30.75. But stocks in electric-vehicle start-ups blew a huge bubble before bursting recently, as this Financial Times spreadsheet (Google doc) starkly reveals.

A week ago, on 8 June, Lordstown warned that it did not have enough money to begin commercial production of its Endurance truck. The firm warned, “These conditions raise substantial doubt regarding our ability to continue as a going concern”. Yesterday, its chief executive officer and chief financial officer both resigned. Lordstown shares closed at $9.26 on Monday, crashing almost seven-tenths (69.9%) in five months. Such crazy corporate shenanigans were common in the run-up to the stock market crash of 2000-03. SPAC investors beware.

Should I sell my shares?

Will worries about a stock market crash push me to sell up and run screaming to the woods? No, because I have near-zero exposure to these bubble markets. However, I do worry about the next market downturn or setback. That’s why I buy shares only in well-run, rock-solid, cash-generative businesses. For now, I’ll stick to bargain-hunting in the FTSE 100 and leave bubble stocks for younger, braver traders!

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be considered so you should consider taking independent financial advice.

Cliffdarcy has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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