I See a Big Correction Coming Early in 2021 - Here's Why

In a year literally plagued with bad news and uncertainties about public health, social unrest, and a political crisis, the stock market posted robust returns. This doesn't surprise me -- the stock market has a long history of defying expectations, and 2020 was a flagship year for doing just that. 

I expect 2021 to be different, and assuredly more volatile, in my view. 

The stock market staged a strong rally off the spring lows, with frequent stories of 100+% gains and more recent news about explosive returns in cryptocurrency. From an investment standpoint, the strength across many asset classes has led to a surge in “FOMO,” or fear of missing out on returns.

Many investors are rushing into the markets, pushing sentiment from pessimistic in the spring to optimistic today. Investors borrowed a record $722.1 billion on margin through November 2020, a signal that risk-taking may be approaching a crescendo.

Optimism and overt risk-taking combined have been ominous for markets, as historically they have tended to result in corrections, pullbacks, and bouts of volatility (see 2000 and 2008 for examples). I'm also seeing signs of too much optimism in the retail brokerage market, with individual investors opening more than 10 million new brokerage accounts in 2020 – a record. The Wall Street Journal also reported that the online trading platform Robinhood saw 500,000 new downloads in December, as well as upticks in volume on brokerages like TD Ameritrade and E*Trade.

If history serves as any indication, I think this rush of investor enthusiasm ends with a sharp, sudden, and probably pretty scary correction of -10% to -20%. I'm spending the next few weeks getting cash at the ready.