Here’s why a stock market crash could happen

The FTSE 100 index has really picked up pace this month. After starting out on an uncertain note, it is now back to pre-pandemic levels. This makes me hopeful that it will go back to the highs of early 2020 before the end of the year. At the same time, I am cognisant of rising risks to the stock market that may well result in a crash. 

UK’s weak recovery could trigger a stock market crash

The fact is the latest rise in the stock market is still not built on a solid foundation. The recovery is still weak. Consider just the UK. In August, the economy grew by a mere 0.4% month on month. This is despite the fact that it was the first month after the lockdowns were completely eased. 

While many FTSE 100 stocks represent multinational companies, some of them are still largely oriented towards the UK market. These include grocers like Tesco, Sainsbury’s, or Morrisons and non-essential retailers like Next. Stocks like these can suffer if the recovery is weak, because it will also reduce the growth rate of consumption demand in the economy. And this in turn can tell on their share prices. 

Commodities’ dwindling gains

Next, consider the China factor. China, the second biggest country economy, is facing its own challenges, as evident from the Evergrande situation, which caused some serious stock market scares around the world. But before this, largely because of the country’s government stimulus, FTSE 100 commodity stocks were flying high. Industrial metal miners like Anglo American, Evraz, Rio Tinto, BHP, and Glencore saw massive share price increases. And they are even among the biggest dividend yielders around. 

However, in recent months stocks like Anglo American and Rio Tinto have seen a sharp drop in price as the outlook for industrial metals is no longer as bullish. They companies also have individual issues. Evraz is facing higher taxes in Russia, while BHP is getting delisted, and Rio Tinto is under scrutiny after it allegedly failed to disclose cost escalation on one of its projects in time to investors. This means that these stocks may remain weak for the rest of the year. 

FTSE 100 companies’ inflation challenge

At the same time, prices are rising. In the UK, inflation has come in above 3% for the last two readings. FTSE 100 companies like Mondi and International Consolidated Airlines among a host of others have flagged inflation as a risk in the past. And looking at the latest numbers, it appears that the situation may only have worsened for many of them. The authorities are of the view that inflationary pressure is transitory. But, if in the meantime it does spike significantly, a stock market dip is possible. And if bearishness is sustained, there could be a full-blown crash as well. 

The other side

There are arguments on the other side too. The recovery could pick up pace any time, more and more sectors are normalising — which can positively impact the FTSE 100 index — and the pandemic is significantly under control now. I hope that is the case. But even in the case of a market crash, I will be ready to buy from among the long list of stocks on my investing wishlist. 

Manika Premsingh owns shares of Anglo American, Evraz, Glencore, International Consolidated Airlines Group and Rio Tinto. The Motley Fool UK has recommended Morrisons and Tesco. 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.