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Is the volatile FTSE 100 Index a precursor to a market crash?

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The FTSE 100 has been quite volatile recently. Over the last 12 months, the index has increased by an impressive 11.6%. But this week, it’s hardly been smooth sailing. On Monday, the FTSE 100 dropped almost 200 points, only to recover most of this decline by Wednesday morning. What’s behind this erratic behaviour? And is this a sign of a potential market crash?

The wobbly FTSE 100

The level of the FTSE 100 is ultimately determined by the movement of its underlying stocks. Grouping the UK’s largest 100 public companies by market capitalisation into a single index provides a decent proxy to the average overall performance of the stock market in the country.

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That means the recent volatility in the index price was caused by nothing more than investors and traders buying and selling shares. But on Monday, the selling pressure was higher than usual. Lockdown restrictions have now been removed in England. This is undoubtedly good news for businesses, especially those in the hospitality sector. But the Covid-19 infection rates have almost returned to their peak, spawning resurging fears over the UK’s economic recovery prospects.

With that in mind, seeing the FTSE 100 drop sharply on Monday morning makes perfect sense to me. But since then, the index has started growing again. It seems the initial decline created several buying opportunities for multiple recovering companies. And with buying activity suddenly up, the FTSE 100 followed suit.

The FTSE 100 Index has its risks of a market crash

A precursor to a market crash?

The fear of an impending market crash is something that all investors experience at some point. But despite what many believe, these events aren’t actually that common. The collapse seen last year was the first since 2008. And it was ultimately a globally elected crash as governments worldwide decided to shut down their economies to slow the spread of Covid-19. This is one of the reasons why the stock market has almost fully recovered in a relatively short space of time compared to historical timelines.

Personally, I’m not convinced that the pandemic will trigger another market crash. Now that vaccines are available, the world seems far more prepared to combat this pandemic. Having said that, the risk of significant short-term disruption remains high.

As stated earlier, the Covid-19 infection rate in the UK is nearing its highest levels. And the removal of lockdown restrictions in England will undoubtedly worsen this metric. Suppose these levels continue to rise and reach a new all-time high? In that case, I think it’s likely restrictions will be reintroduced in some form. Needless to say, these would likely disrupt many businesses both in and out of the FTSE 100 Index.

The bottom line

All things considered, I’m not concerned about an impending market crash. If one were to occur, it would hardly be a pleasant experience. But it’s ultimately a short-term problem that may represent a fantastic buying opportunity. So I won’t be closing any positions in my portfolio for this reason any time soon. 

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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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