Nothing is more appealing to stock market investors than the idea that they can predict the future. Recently, several market analysts have argued that the Dow Jones Industrials (^DJI 0.26%) is setting itself up for a repeat of the Crash of 1929, the plunge that ended the bull market of the 1920s and was the precursor to the Great Depression. Yet regardless of whether you find the logic behind the crash-repeat theory compelling, there's a simple reason why you should ignore it: you can almost always find parallels to scary past events in any market environment.
The theory behind a repeat of the Great Stock Market Crash
Last November, market analyst Tom McClellan reported on a discovery that a well-regarded technical analyst had made. Comparing the chart of the Dow's moves in 1928 and 1929 to its recent performance since mid-2012, you can find similarities in the direction and magnitude of moves both upward and downward during the period. (To get the full effect, take a look at the chart here on McClellan's website.) McClellan goes on to discuss the possible fundamental catalysts that could lead to a market high and subsequent drop, including the debt ceiling debate and the implementation of the Affordable Care Act.
Skeptics have argued that fears of a market-crash repeat are unfounded because of the manipulations of the charts necessary to make the two periods look so similar. For one thing, the magnitude of the market moves in both periods is much different, so that what was a nearly 50% drop in 1929 would only represent about a 20% drop in 2014. Obviously, a 3,200-point plunge in the Dow would be newsworthy, but in many long-term investors' eyes, it would restore the Dow to a healthier trajectory going forward -- far from spelling future doom.
Crying wolf over and over
But the best reason to ignore calls for a 1929-like crash is that we've heard similar theories so often in the past that have turned out to be abjectly false. Investors love to think that the market falls into familiar patterns, but while hindsight makes visual matches obvious, it's far from a given before the fact.
For instance, back in 2011, some analysts pointed to parallels between the recovery from the 2008 financial crisis and the recovery in 1930 after the crash before the market dropped even more precipitously in 1932. Yet as we know now, those calls didn't come to pass -- or at best were severely premature.
In fact, calls like this have come up just about every time an analyst could make a reasonable parallel. For instance, in 1988, many investors pointed to the early 1930s period as demonstrating that the market's recovery was merely a minor bounce and that stocks would fall to even lower levels in due course. That didn't happen; the bull market of the 1990s ensued, and stocks never looked back.
The real fear
Investors are particularly susceptible to crash-related fears right now precisely because the stock market has performed so well in the past five years. The bad economic news from recent months gives bearish investors some fundamental support for their views, but just because the economy is slowing down doesn't mean a major crash is imminent.
If markets remain volatile, your most important task is to keep your balance and avoid getting whipsawed by changing market sentiment. Focusing on the long haul is the easiest way to get through short-run bumps in the road, and for many younger investors, an extreme market drop would actually be welcome -- even if it isn't terribly likely.
