Is the market going to crash? Many financial pros will tell you that a reckoning of some kind is inevitable — it’s just a matter of when. Predicting the when is the hard part.
Trying to make sense of the market’s random walk may be a fool’s errand. Financial markets are inherently finicky beasts, after all, prone to bouts of volatility even during periods when the Dow Jones Industrial Average DJIA, -0.30% and S&P 500 Index SPX, -0.66% are ringing up strings of all-time highs.
To help spot warning signs during stretches like this, MarketWatch has created an interactive tool intended to be a sort of financial canary in the coal mine. The charts give investors a way to keep tabs on market vital signs intended to spot the red flags before it’s too late. You can view (and bookmark!) the full graphic here, or see each chart embedded below in this article.
The charts update every day, can be adjusted to view historical trends and context, and highlight previous periods in which each indicator flashed a “stress” sign. By comparing the current pattern with past periods of stress, we hope readers will be able to judge for themselves just how anxious they should be.
No indicators are perfect or all-knowing. But by watching these trends in stocks, bonds, and the relationship between various assets for clues, investors can, hopefully, detect shifting patterns — before things unravel into a full-blown crash.
The indicators
An inverted yield curve is a well-known recession predictor, and makes our warning signs watchlist (represented as the U.S. 10-year Treasury yield TMUBMUSD10Y, -0.75% minus the 2-year yield TMUBMUSD02Y, -0.44% ).
An inverted yield curve
An inverted yield curve, which occurs when short-term interest rates exceed long-term rates, is one sign that people may be worried about the economy, and thus it’s said to be a good recession predictor. But it can also act as a self-fulfilling prophecy by helping to create a credit crunch, which can further slow the economy. When the common “carry trade” of funding longer-term assets with shorter-term liabilities starts losing money, liquidity could be siphoned from the market as lenders stop making loans. Inverted yield curves have preceded every recession going back to the 1960s.
Spiking volatility
How the VIX trends is a good measure of investor anxiety. Volatility is used to price stock options, which many use as insurance on open positions. So a rising VIX suggests investors are willing to pay more to protect against a selloff in stocks. The VIX’s historical average is around 20. Extended periods during which the VIX is above 20 can be an early warning of a downturn, and such periods have preceded every recession since the VIX’s creation in the early ’90s.
