I think stocks should perform well in 2021. Global economic growth of around 5% is expected and this should provide a nice backdrop for equity markets. That said, we can’t rule out another stock market crash. Here are three reasons stocks could crash again next year.
Good news is priced in
One thing that concerns me is there’s a very high level of optimism in the stock market right now. Since Pfizer announced it had developed a coronavirus vaccine back in November, many stocks have surged.
I think some stocks trade at overly-optimistic prices. Take hotel operator InterContinental Hotels, for example. Currently, its share price is only about 5% below where it was in January 2020, pre-Covid. That seems too high for me, looking at what’s going on in the world today. Realistically, travel isn’t going to go back to normal for years.
Given how much good news is priced into the market, it probably wouldn’t take much in the way of bad news to cause a stock sell-off.
Covid-19 could cause another stock market crash
Another reason I think we could potentially see a stock market crash is that Covid-19 isn’t over yet. Just recently, we learned there’s a new strain of the virus. This is likely to result in further challenges.
Of course, we have vaccines. However, looking at how governments have handled the crisis so far, I can’t say I’m confident these will be rolled out smoothly. Just recently, Pfizer said millions of vaccines had been sitting in storage because the US government hadn’t given the company directions on where to send them.
Until we see mass vaccination, plenty of businesses are going to continue experiencing challenges.
Bubbles in the market
Finally, I think there are some genuine bubbles in the market at the moment. Electric vehicle (EV) stocks are a good example. After its amazing run in 2020, Tesla is now one of the largest companies in the world. That just doesn’t make any sense, in my view.
It’s worth noting that ‘Big Short’ hedge fund manager Michael Burry – who called the housing market crash correctly – recently said he is shorting Tesla stock. That says something. If we see a crash in these bubbly areas of the market, it could spread to other areas of the market.
I’m prepared for a stock market crash in 2021
Now, I’m not going to rush out and sell all my stocks tomorrow because there’s a chance we could see a stock market crash in 2021. After all, crashes are notoriously unpredictable. That said, I think it’s worth planning ahead and being prepared for a crash. If you’re prepared and have a little bit of cash on the sidelines, stock market crashes can be amazing opportunities.
This time last year, for example, I had around 20% of my portfolio in cash, ready for a market crash. When volatility surged in February and March, I piled into the market, snapping up great shares at bargain prices. This paid off massively. For the year, I had around 10 stocks with returns of more than 50%. My best performer, ASOS, returned about 300%.
In 2021, I’ll be taking the same approach. No one knows if we’ll see a stock market crash this year. But if we do, I’ll be ready…
Edward Sheldon owns shares in ASOS. The Motley Fool UK owns shares of and has recommended Tesla. The Motley Fool UK has recommended ASOS and InterContinental Hotels Group. 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.