A legendary investor and economic consulting firm that accurately predicted the 2008 financial crisis Gary Shilling& Co President Gary Shilling recently warned that US stocks may plummet by 30% and an economic recession may arrive within a few months.
He said in a program that "stocks are very, very expensive now" compared with competitive assets such as US treasury bond bonds.
"If one day we wake up and find a large company in trouble, causing a sharp drop in the stock market, I wouldn't be surprised at all," he added.
This experienced economist has been known for accurately predicting several major market trends over the past 50 years. Before founding his own consulting firm in 1978, Shilling served as the first Chief Economist of Merrill Lynch.
He pointed out that the Schiller P/E ratio of the S&P 500 index is about 45% higher than the long-term average, indicating that the stock market has been overvalued in history.
The Schiller P/E ratio, also known as the Cycle Adjusted P/E ratio (CAPE), is calculated using the 10-year average profit after excluding inflation, while the regular P/E ratio is calculated based on the past year's profit, thus smoothing out the impact of economic cycles on valuation. Previous data shows that when the CAPE of the US stock market exceeds 25 times, it enters a crazy period of irrational prosperity.
In May 2007, the CAPE of the US stock market was 27.6 times, which later became the peak of this cycle, leading to the outbreak of the global financial crisis. The CAPE in January of this year once reached 31, only lower than the peak of the 1929 stock market crash (33) and the value before the 50% stock market crash in 2000 (44).
At the same time, Shilling, like many Wall Street giants, reminds investors that a few stocks constitute a significant portion of the current value of the stock market. He believes that this concentration is "dangerous" because it indicates that investors "really don't like other parts of the stock market, and therefore don't like most of the economy."
"This is a highly speculative market, and excessive speculative behavior seems destined for a significant decline," he said.
Shilling warns that the S&P 500 index may fall by 20% to 30%, with a "potentially even greater" decline. He predicts that the benchmark index may fall below 3500 points, a 32% drop from the current level of around 5100 points.
Decline is imminent
Shilling also listed a series of dangerous signals suggesting an impending economic recession.
He pointed out that the Leading Economic Index continues to decline, housing starts are under pressure, consumer demand and confidence are weakening, small businesses are reducing recruitment plans, the labor market is weakening, and the Federal Reserve is hesitant to cut interest rates.
Looking back at the past seven recessions, Shilling emphasized that they occurred on average 26 months after the Federal Reserve began raising interest rates. He said that it has been about two years since the first interest rate hike in this cycle, indicating that the US economy is about to enter a downturn.
"The likelihood of an economic recession is high," he added, pointing out that there has only been one successful soft landing since World War II.
Finally, he predicts that as mortgage interest rates decline, real estate activity will "significantly recover" in the next three to four years. He also pointed out the risk of a future "debt bomb", as the spiraling federal debt requires the government to spend more and more of its budget to pay interest.