Why a Stock Market Correction is Due

The last six years has been one of the longest bull runs in the history of the stock market. This alone marks that a correction should occur, but let's take a look why.

When the housing bubble burst, the stock market crashed. People were losing jobs and equity in there homes, so they sold their stock. They wanted to save their money. The Federal Reserved realized this, so they began a program called Quantitative Easing (QE). They did three rounds of QE that were meant to make cash cheaper, and to spur investment. The idea was to keep interest rates low, and make money cheap. This should increase investments because it is cheaper to borrow from the bank, so loans are made and things are bought. See, what most people do not realize is that in order for the economy to be "good", it requires people to buy stuff. Every individual is part of the economy, and if everybody wants to save, the economy is not going to get better.

Now people have cash, but where do they put it? Stocks? Bonds? Venture capital? Remember, interest rates are low, so bonds are not the answer. That leaves stocks and venture investments. Because of this, you can see how stock prices have gone up, and why there is all these startups. People put there money somewhere, because the opportunity cost of keeping their cash in a savings account is high. People want to put their money in stocks, because most people do not have the cash to fund a startup. This raises prices because the demand for stock goes up.

Now, the Fed knew this would happen, its why they did it. When people make good investments, they feel a wealth effect. They feel they have made more money, and they spend more. They have those stocks to sell if they need to. That was the Fed's plan the whole time; prop up stock prices, create a wealth effect, increase spending. So what is the problem then? The economy is getting stronger. More people are getting jobs.

The problem is that this economy has been built upon artificial interest rates. The cheaper money has spurred more investment, but it has also spurred more risk. Investors have cheaper money, so they can take more risk when they make their investments. This will lead to bad investments, and when these investments fail, it will hurt the economy. The other problem is that when people feel this wealth effect, they technically do not have the cash in hand in case of an emergency. They still have to sell the stock to actually realize any profits. The savings they are relying on, are at risk. All it will take is something like a stronger US Dollar, or falling oil prices to make profit margins fall and force stock prices to fall. This will lower the wealth people have, and start to cause some worry. What can happen here is panic selling. Stock prices fall to a certain level, and everybody decides to sell at the same time. People late to the party can see the "savings" they were relying on in the stock prices fall quickly, and lose a lot of money.

Another problem is interest rates will go up, and it will be better for the bond market. Since people have gone out of the bond market and moved their cash to stocks, they will sell stock to put back into bonds. This will create a higher supply in the stock market, and that will cause the market to fall.

Lastly, and the hardest one to grasp, is how much higher can the stock market really go? Demand causes the prices to go up, but what happens when people simply run out of money to put into stocks? Is it realistic for the market to keep going up? Do people want to risk more money to keep the prices going up? Or has demand reached supply?