When Will The Stock Market Crash?

Cash is a dreadful investment. Especially right now. Low interest rates and inflation mean cash goes backwards as an investment. And yet I find myself with too much cash. What I need is a stock market crash - an opportunity to put my excess funds to work.

But Don't I Like It When The Market Goes Up?

Like everybody else, I feel good when the value of my portfolio increases.   It's human nature. But the reality is that while I’m still putting money into the stock market, I should prefer lower prices. It means I get more for each dollar invested. Of course, the opposite is also true. When I start to draw down on my investments, a sudden drop in prices could be more than a little unnerving.

Am I Predicting A Stock Market Crash? 

No way. I'm a realist. Even though prices feel expensive now, it would be foolhardy to think high prices alone could cause a correction. In fact, according to the good folks at Barclays, the CAPE ratio is currently 23.2 against a long-term average of 20.4. So it's elevated, but not alarmingly so.

But even when prices become completely detached from reality, it takes a braver man than me to act. As John Maynard Keynes said, "the markets can remain irrational longer than you can remain solvent."

My cash earns 0.95% interest in a Macquarie savings account. But that's more like 0.6% after tax. According to the RBA, inflation is running at 3% as of the end of September. That means my real return is something like -2.4%. It's important to hold some cash for emergencies. And it provides optionality for when investment bargains do arise. But in my book, holding too much cash for too long is bad news.

My cash levels have drifted up to almost 20% of total investable assets. It's not because I’m predicting a stock market crash in 2021 - or even 2022. It's more a function of what’s happened with some of the companies I own. Integra Group and Cardno have both attracted takeover offers. And Prime Media Group has followed close behind. Add to that the dividends received over the past couple of months and the cash pile keeps growing.

I'd much rather be fully invested because the market spends more time going up than coming down. But good investment opportunities are few and far between right now.

What To Do When The Stock Market Crashes

Now is a good time to check the colour of my parachute. I need to have my plan in place before the market hits the skids. Having experienced both the global financial crisis and the aftermath of the dot-com bubble, I have observed my own behaviour up close. This has helped me plan for the next ASX crash.

What Happened In The Global Financial Crisis?

I was fortunate to have quite a bit of cash on hand in early 2007 on the eve of the global financial crisis. So as prices started to fall, I pinned the ears back and started to buy. But I went too early - I was out of cash well before the market reached the bottom. I decided that I'd bought in too early.

Fast forward to other minor panics in the years since. Each time, I was way too conservative. I waited for a repeat of the GFC, time and again. As a result, I hardly bought anything each time. I was anticipating being ready to buy at prices 30%, 40% and even 50% off, the market never reached those lows meaning I missed out on getting any bargains.

Then in late 2019 I once again found myself with more cash than I wanted but faced what felt like an overheated market with few opportunities. I realized that at some point there would be another stock market crash (or at least a healthy correction) and the best time to plan my response to it was well before there was any blood running in the streets.

So I hatched a cunning yet simple plan. To protect me from myself I decided upon a simple formula for working out how much of my cash to invest at what time if the market did start to fall. I figured that a 50% fall was about as bad as it could get (or more accurately, if it fell 50% I was happy to be all-in at that point). So I decided to invest 10% of my remaining capital for every 5% the market fell from its peak. A 50% fall would see me 100% invested.

The advantage of this plan was that if prices fell 10% or 20% then recovered, I would still be happy because I’d managed to deploy 20% or 40% of my excess funds while prices were down. But if prices kept falling, I’d still have some capital remaining to take advantage of the ever-better bargains.

I only had to wait a few months until I was able to test this plan in real life. In late February 2020, the covid-crash started. Please don’t misunderstand me - it wasn’t easy to stand on the precipice and look out over a world that might be permanently changed by the virus. Maybe this time it was different. But as difficult as it was, I was able to stick with the plan and buy as prices fell.

I’m pleased to report that it worked a treat. There was only about one month between the high and the low. But I managed to get hold of some Ramsey Health Care shares, some Webjet, some Fiducian and a couple of others.

So, while I don't know when the next stock market crash will be, I'm still prepared for the eventuality. In the meantime, I  just need to be patient and buy shares when I see value.