Why a strategist with a nose for stock market crashes is nervous

InvesTech Research’s Jim Stack has called more than his fair share of downturns. He predicted Black Monday and warned clients of the housing bubble before the 2008-2009 financial crisis. He was also cautious in September 2018 as that year’s selloff was getting under way.

It is no surprise, then, that when Stack makes predictions, people listen. His most recent report was on Feb. 21, just days after the S&P 500 index’s recent peak.

There are a number of factors that worry him.

To address the elephant in the room, he thinks that tariffs certainly have the power to be disruptive. But he said that more often than not, “trade wars have resulted in some initial uncertainty and market volatility, which is usually temporary," with notable exceptions like the Smoot-Hawley Tariff Act in the 1930s. That is because in recent decades, tariffs have typically been applied “more judiciously and strategically," making them less likely to send the market into a nosedive.

Of course, “judicious" and “strategic" are likely not the first words to come to mind considering the chaotic rollout of tariffs since President Donald Trump took office. That may go some way toward explaining why the market has reacted so badly.

Still, Stack notes that while the magnitude of today’s tariffs seems worrying at first glance, they don’t seem prohibitive given a longer time frame. They could be valuable for bargaining if not fully implemented, he says.

What is concerning is their potential impact on inflation, which has proven extremely stubborn, as measured by multiple gauges. That has led markets to rein in expectations that inflation will cool enough to allow for further interest-rate cuts from the Federal Reserve. Still, “if they don’t materialize, it will present a major challenge for one of the most overvalued and interest rate-sensitive markets in history," Stack wrote.

To that point, in his February missive at the start of the recent decline, he noted that the S&P 500’s price-to-earnings ratio of 29 put it in the 95th percentile, meaning it has only been pricier 5% of the time.

Before the recent selloff, that figure was being driven largely by the tech and consumer discretionary sectors, home to all but two–Alphabet and Meta Platforms are in the communication sector–of the Magnificent Seven big tech stocks. Those are the most expensive sectors in the S&P 500 and the most-bid up compared with their own historical levels.

By contrast, Stack likes healthcare. Its price/earnings ratio has been lifted largely by just a handful of names, leaving most of the sector reasonably priced. “We continue to view this sector as attractive due to its defensive growth profile and abundance of companies that trade at a discount to fair value," he wrote. He also thinks that investors should use exchange-traded funds to get more exposure to staples and industrials than the S&P 500 provides, given its major skew toward tech.

Ultimately, markets have already endured a lot of pain since Stack’s February warning, so optimists might think that if nothing else, the worst of the pain may be over. Stack himself said that the situation is fluid and requires careful monitoring.

His concern, combined with his record, could keep plenty of investors tensed for the next shoe to drop.