Here's What Could Cause a Stock Market Crash in 2018

As the major indexes tumble nearly 5% over the last week, there are clear signs that a stock market crash in 2018 is increasingly likely.

You see, three developments are aiming for the longest running bull market's Achilles' heel, and they could spark a market crash and ruin your portfolio.

But that doesn't have to be you.

In order to make sure Money Morning investors are prepared for any significant market downturn, we're explaining the three catalysts that could lead to another stock market crisis and the next recession…

The Market Is Highly Overvalued

The first threat to the current market is sky-high stock prices.

You see, the stock market's aggressive recovery from the recession over the last ten years has pushed thousands of shares to record-high valuations.

When backed by sustainable growth, these kinds of run-ups are ideal. However, many shares have risen so quickly that they lack the fundamental value necessary to justify their current prices.

As a consequence, stocks look highly overbought and set for a sharp reversal – especially when we put this market in its historical context.

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Take a look at the Shiller price/earnings (P/E) ratio. This measures the value of the stock market by taking into consideration the recent business cycle, and we have data on it going all the way back to 1872. Over the last 146 years, the ratio has averaged 15.67.

About 24 months before the 2008 financial crisis, the Shiller ratio sat at 24, beating the average by nearly 10 points.

And before the 1929 stock market crash, the ratio sat at an astonishing 32.56.

Today, the Shiller P/E for the S&P 500 is at 33.27 – higher than both of the worst financial crises of the last century.

The truth is, stocks are at historically high valuations and have little room to run without substantial earnings growth. Any signs of market weakness could send them into free fall.

Unfortunately, the catalyst that could send stocks plummeting is just around the corner…

Emerging Market Currencies Are Increasingly Unstable

The second catalyst for the next stock market crash comes from overseas.

Over the past several months, a host of emerging market currencies have hit yearly lows.

The Indonesian rupiah, Mexican peso, and South African rand have all tumbled nearly 20% in the past year. Over the same period, the Turkish lira has dropped close to 40%, and the Argentine peso is down 50%.

In large part, these changes in currency values are taking place because less capital is flowing into emerging markets, which means there is little demand for these currencies.

The capital flows into these emerging markets this year alone have fallen to less than half the levels achieved in 2017.

Without these inflows, emerging markets will find it difficult to cover their current account deficits. If emerging-market nations are unable to finance their debt, they are likely to default on their obligations, shaking the stability of western creditors.

And that would likely cause investors to lose confidence in banks' ability to meet other outstanding obligations.

This is likely to set off a domino effect that will spark a severe downturn in American markets and burn your portfolio.

However, this next threat could cause even greater devastation…

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