Are Materials and Financials Sectors Set to Crash?

Last week, the Australian stock market traded to its lowest point in five weeks and at one stage was down nearly 2.5 per cent. While this may add fuel to those who are propagating that the stock market will crash, we need to look at the bigger picture rather than what occurs on any one day or week.

The Australian stock market is top heavy with two of the 11 sectors effectively determining the direction of our market. The financial sector accounts for just under 30 per cent of our total market while the materials sector accounts for just under 20 per cent. Given this, it was not surprising to see the market was down last week, as both of these sectors fell heavily on Thursday. For the stock market to crash, we would need to see both sectors continue to fall considerably, which is unlikely.

Why the Australian stock market will not crash in 2021

In 2007, the financial sector crashed 66 per cent during the GFC, and while it rose from early 2009 to a high in 2015, it failed to rise above this high and is currently trading around 10 per cent lower than the 2007 high. The materials sector also crashed over 60 percent during the GFC and is currently trading below its 2007 high but only just, as it broke above that level in May 2021 before falling away again last month.

So what does this mean? Stock markets typically crash because of rampant speculation, which is an emotionally charged bull run where the masses suffer from a fear of missing out (FOMO). Rampant speculation also leads to the overuse of leveraging, as those with FOMO scramble to find as much cash as they can to profit from the bull market.

Economically, Australia is in a good place compared to most western nations and there are currently no signs of rampant speculation in the market, which usually also correlates with higher levels of inflation. While we are experiencing an uncertain economy and a rise in inflation, according to the RBA this is just temporary.

We are also not seeing any signs of an increased uptake with leveraging because if this was the case, the stock market would be incredibly bullish right now. What we are seeing is higher levels of borrowing in the property market, which is forcing housing prices to rise to unprecedented levels in many areas. This in itself also supports the theory that the stock market will not crash, as money flowing into property cannot be invested in the stock market causing it to become over heated.

What are the best and worst performing sectors this week?

The best performing sectors included Communication Services down 0.41 percent followed by Consumer Discretionary down 0.56 per cent and Industrials down 0.59 per cent. The worst performing sectors included Materials down 3.36 per cent followed by Consumer Staples down 1.95 per cent and Energy down 1.90 per cent.

The best performers in the ASX/S&P top 100 stocks included Alumina up 9.27 percent followed by Washington H. Soul Pattinson up 8.14 per cent and South 32 up 4.27 per cent. The worst performing stocks included Fortescue Metals down 12.37 per cent followed by Magellan Financial Group down 7.68 per cent and Orica down 7.22 per cent.

What's next for the Australian share market?

The Australian stock market was lack lustre again last week until Thursday. Prior to Thursday, the All Ordinaries Index only moved 0.5 per cent higher over the prior 16 trading day, yet on Thursday it was down 2.2per cent at one stage before closing down 1.90 per cent. On Friday the market rose slightly but struggled to make up lost ground with the Al Ordinaries Index ending the week down 1.54 per cent

In my last report, I mentioned that a break above the previous high would signal the continuation of an uptrend while a break below the low of 7,700 points would signal the start of a downtrend. The All Ordinaries Index fell to 7,635 points on Thursday, therefore, it now looks like the probability has swung towards the market being more bearish, which means we can reasonably expect further falls over the coming weeks

If this is correct, I expect the next low to occur sometime between the last week of September and mid-October, with the market likely to fall below 7,200 points, which is simply a reflection of normal market fluctuations.

For now, good luck and good trading.

Dale Gillham is Chief Analyst at Wealth Within and international bestselling author of How to Beat the Managed Funds by 20%. He is also author of the award winning book Accelerate Your Wealth—It’s Your Money, Your Choice, which is available in all good book stores and online.