This is the type of comment I'm seeing all over social media right now. I get it—everything's taken a sudden dive, from stocks to crypto.

Today, I thought it was important to address peoples concerns, explain what's causing all this mayhem, and finally, give you my thoughts on how you can best navigate this storm.

(I'm prioritizing getting this newsletter out quickly, so don't expect the writing to be as slick as usual. It's more important for you to hear the information so you can use it to your advantage.)

This is one video you should definitely not skip.

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Why is the Stock Market Plummeting?

To put this into perspective, the S&P500 dropped 3%, which was the biggest one-day drop in nearly two years.

The Dow dropped 2.6% while the NASDAQ slipped 3.4%. This sounds pretty alarming, and from my research, there are 4. main reasons for this. Let's go through them one by one so that we can see if we're due for another historic market crash similar to the 2008 financial crisis or just a little bump along the road.

1. Fear of Recession

Now, if the economy went into a recession, the stock market would most likely plummet. This isn't always the case, as there have been a few exceptions, like in the 2020 recession when the S&P 500 returned 16.3% for that year. However, that isn't the norm.

This makes sense as during a recession, less money is being spent by people like you and me. Companies then start firing staff, leading to more people being unemployed, which causes people to spend even less. This results in companies earning less and most of the time, stock prices being impacted. This is one vicious cycle, and I hope you can see why this would be a pretty bad situation to be in.

But if we aren't in a recession yet, why is the stock market going down? The stock market is known as a leading indicator. Whenever there is a hint of a recession happening, it reacts to that news pretty negatively.

So, what was that hint?

Several data reports showed that the US had only added 114,000 jobs in July, below expectations of about 150,000, and unemployment had risen to 4.3%. This is higher than any month since October 2021. These numbers are far from a disaster; the unemployment rate is still relatively low, and the underperformance in hiring isn't terrible. However, it has triggered something known as the Sahm Rule.

The Sahm Rule activates when the average unemployment rate over three months goes up by at least 0.5% compared to its lowest point over the past year. The reason people take this seriously is that it's accurately predicted every US recession since World War II. In response, Goldman Sachs raised its odds of a recession occurring in the next year from 15% to 25%.

Interestingly, the woman who came up with the rule, Claudia Sahm, doesn't think the law is going to be right this time. There have been other rules like this before, such as the bond yield curves, that have turned out to be unreliable recently. One reason why it might be a false alarm is that this time around, unemployment isn't rising because people are losing their dream jobs; instead, it's because more people are entering the workforce.

However, as I mentioned before, unemployment rising is only one factor in the vicious cycle of a recession.

The other important one is the amount of money everyday people are spending. Unfortunately, it looks like spending is slowing down too.

A good way to gauge this is by checking how companies like McDonald's and Walmart are doing, and both have recently said their customers are cutting back on spending. Another company to watch is Wayfair. I actually buy a lot of my furniture from them—I'm sitting on a Wayfair chair right now! They recently mentioned that customers are being very cautious, with spending down nearly 25% from three years ago.

This all sounds pretty worrying; however, when it comes to the Sahm Rule, this time around, I'm taking it with a pinch of salt. Even Goldman Sachs seems to agree. Although they've increased their projection on the risk of a recession, they still think it's pretty unlikely. There's also a lot of time for the big dogs at the Federal Reserve to swoop in and protect the economy, which leads me nicely on to:

2. Interest Rates

Check out this graph:

The last few times that the FED cut interest rates from their peak, a recession followed closely behind. And guess what's just happened? You got it—the US Federal Reserve hinted after its meeting at the end of July that interest rates would soon be cut.

This graph also looks pretty concerning; however, it really doesn't show us the full picture. To understand why this time is different from those past examples on the graph, we need to look at why the Federal Reserve initially put interest rates up in 2020.

When they did this, they set an inflation rate target to hit and said they would start cutting rates once they achieved it. This strategy worked, and inflation has come down pretty significantly from its peak of 9.1% in 2022, but it still remains slightly above the FED's target rate of 2%.

So now, if we go back to the graph, all those past examples of the FED cutting interest rates were because they were trying to stop a recession from happening. However, this time, it's because they are so close to hitting their inflation rate target. So, the FED cutting interest rates should actually be seen as a positive move for investors because it helps boost the economy. When rates are lower, borrowing money becomes easier, which means more money flows around. This is the opposite of what happens during a recession.

So, on the surface, lots of these factors look worrying; however, when you dig a bit deeper, it doesn't seem as bad as it looks.

3. Tech Stocks

If you recently invested in any of the top tech companies, then you were definitely hit harder than most, especially the stocks in a group known as The Magnificent 7. These include Apple, Amazon, Alphabet, Meta, Microsoft, Tesla, and Nvidia.

You might be thinking, "That's fine, I don't invest in individual tech stocks." However, this also impacts S&P 500 Index Fund investors, as these top seven tech stocks actually make up about 31% of the S&P 500. This means that when tech stocks get hit hard, so does the entire index fund.

So, why are tech stocks suffering?

Recently, these stocks have been soaring due to the promise of revolutionary AI technology. On a conference last year in Texas all they seemed to be banging on about was all these different AI tools you should be using in your business. It does seem like the AI craze has caused a bubble to form, pushing some stock prices higher than they should have ever been.

Don't get me wrong—I definitely see the value in AI. It's not like the metaverse—enough said about that, I think. I just think the value of our current AI capabilities has been widely overvalued, and investors are realizing this, causing stock prices to fall to more reasonable levels.

I'm not alone in this thinking, as Warren Buffett's Berkshire Hathaway slashed its stake in Apple by almost 50% in the second quarter. There also seems to be bad news followed by more bad news coming from the AI space. Just recently, the first preview of Apple Intelligence failed to live up to the hype, and Nvidia's highly anticipated Blackwell chips will be delayed due to design flaws. These chip delays will also impact companies like Meta and Microsoft, so everything is pretty interconnected.

Look, all in all, I personally think investors got a little hyped about AI and it became a bit of a buzzword. It reminds me of when I was investing during the dot-com bubble in the late 1990s. Just keep in mind that the stocks with the sharpest booms tend to fall the furthest.

4. The Japanese Yen

Now imagine you discover this really clever loophole. You borrow money from someone with virtually no interest and invest it wisely. Meanwhile, the currency's value drops significantly. By the time you need to repay the loan, the money you owe is worth much less than when you borrowed it, but your investment has grown. So, you end up repaying the devalued currency while profiting from your investment's growth. That would be a pretty cool life hack, right?

Well, it's exactly what lots of traders were doing with the Japanese Yen as it's been falling in value for years. It's a little more complicated than that, but I'm not going to bore you with all the details. It's a cool trick to make some easy money. But why am I telling you this?

Everything changed when the Bank of Japan decided to raise its main interest rate from nearly zero. So, once again, countries are messing with the interest rates. This small change caused the value of the Japanese Yen to increase, meaning that everyone using the loophole I just described was a little bit screwed, as they had to sell their assets to cover their losses. Some experts believe that this could be contributing to the current decline in the stock market.

Since all this went down, the Bank of Japan has reversed course on its policy. So again, even though this is one of the factors contributing to the sell-off, it should hopefully only be temporary.

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So What Do You Do?

The answer is simple: Don't panic.

There will always be a reason for people to panic and sell off, but the reality is that the stock market always comes back stronger.

The worst thing you can do is sell all your investments when the market is low and lock in your losses. My strategy has always been to buy and hold for the long term, and I suggest you do the same.

If you've got some extra cash lying around, this might be an excellent time to consider buying some stocks while prices are lower. Just make sure you're investing in solid companies that will withstand the test of time.

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Cheers,

Jonas