It's not a matter of "if" the stock market is going to crash again -- it's a matter of "when."
Source: Flickr user Jedimentat44.
Between 1997 and 2011 the Dow Jones Industrial Average, arguably the most followed stock market index in the world, fell in excess of 514 points in a single trading session 10 times. On a percentage basis this worked out to a loss of 4.6% on the low end to as much as 7.9% on the high end during the height of the financial crisis.
Although the stock market has historically trended higher over the long run -- thus favoring the long-term investor -- corrections, even very rapid corrections known as crashes, are possible.
What causes stock market crashes? Unfortunately, that's impossible to predict. We've witnessed the financial crisis and a terrorist attack play a role in pushing the market notably lower, but foreign pressures, rumors of the United States potentially losing its AAA credit rating, and weak economic data have all played their roles too. Honestly, there's just no way to predict with any accuracy where the next black swan event will come from.
The worst stocks for a stock market crash But one thing is for certain: there are certain areas of the market that can be nightmarish for investors during a stock market crash.
Although we at The Motley Fool are not into timing our investments because there's no rhyme or reason to the occurrence of stock market crashes, it nonetheless is important to recognize that there are stocks which are probably going to perform poorly during a stock market crash. That being said, and understanding that there's an arbitrary quality to this list by necessity, here are the worst stocks for a stock market crash.
No. 1: Emotionally driven stocksStocks that are driven by emotions rather than genuine fundamentals such as revenue growth and profits are generally going to have a rough go during a stock market crash.
Source: GW Pharmaceuticals.
Think of a company like GW Pharmaceuticals in the biotech arena. GW Pharmaceuticals has shot higher because it's developing a pipeline of drugs using cannabinoids from the cannabis plant. As public perception of marijuana has shifted toward a positive stance, GW Pharmaceuticals has benefited. There's even been an initial bill proposed in Congress that could reduce some of the barriers GW Pharmaceuticals has to leap over in order to study its cannabinoids.
However, GW Pharma is slated to lose money throughout the remainder of the decade. If the stock market is crashing, the emotions tied to this "marijuana trade" could quickly go up in smoke as investors look for profitable safe havens.
Source: Flickr user Emilian Robert Vicol.
No. 2: Penny stocksWhether it's a bull or bear market, penny stocks are generally not a good investment idea -- but they can be especially dangerous to hold during a stock market crash.
Take coal miner Arch Coal as a prime example. As the stock market has motored higher, Arch Coal has continued to head lower as coal prices and demand remain weak and its losses expand. Compound this with lower natural gas prices and an impetus for electric utilities to change from coal-fired plants to natural gas-fired plants and you have a problem. Tack on a stock market crash whereby Arch Coal could tumble below the $1 per share threshold that most institutional investors won't cross and you have the potential for a very big problem.
No. 3: The "next big thing"During a bull market the "next big thing" stocks tend to perform extremely well, as they're fueled by a combination of emotions and lofty growth estimates from Wall Street (and often the company's own hype).
What's the "next big thing?" There are a lot of game-changing products out there in the technology and biotech spaces, such as 3D printing, the Internet of Things, and cancer immunotherapies, for example, that could transform the way we live. But if you want a great example of a scary stock to own during a market crash -- and here comes the bias, because I am short this stock at the moment -- look no further than electric vehicle maker Tesla Motors .
Tesla Model S. Source: Tesla Motors.
CEO Elon Musk has indeed introduced the first new car brand in 50 years, but Tesla isn't expected to be profitable on a GAAP basis until 2020. In the meantime, it's building its Gigafactory to make lithium-ion batteries for its electric vehicles when it has no prior experience as a battery manufacturer, it's making as many cars in a quarter as some of its rivals can make in two days, and the company has regularly delayed the debut of its new vehicles. Are electric vehicles the future at some point? Most likely. But are they the standard now? Not even close, meaning Tesla is potentially one of the worst stocks to own during a stock market crash.
No. 4: Cyclical stocksCyclical stocks can also have a rough go when the stock market is crashing. Cyclical stocks tend to outperform the broad averages when the economy is healthy and the indexes are rising. Conversely, when the stock market is crashing, or the U.S. or global economy is in a recession, they tend to underperform the indexes.
Source: Citibank, Facebook.
A great example here? How about Citigroup in the banking sector. There could certainly be more volatile banking stocks I could have chosen, but Citi's still in the process of cleaning up its balance sheet from the financial crisis, and banks in general are reliant on a growing economy to drive loan and deposit growth. To add to that, Citi's business is also heavily leveraged to overseas markets, such as Europe, which are forecast to generate slower growth over the next couple of years. A plunging stock market could imply loss of confidence in global financial markets, which could be devastating to Citigroup shareholders.
Source: Flickr user James Wang.
No. 5: Leisure sector stocksLastly, a specific sector that can be among the worst during a stock market crash is leisure. Leisure companies depend on a strong economy and growing investment to drive consumers' desire to take vacations and treat themselves. Seeing the stock market crash and watching their investable dollars evaporate won't entice consumers to take vacations.
Who would feel the most pain? I suspect shareholders in airline stocks such as American Airlines Group could be in for some major turbulence. Although fuel prices could fall during a stock market crash, ultimately helping American Airlines, a reduction in bookings could prove to be too much to counteract what are already very tight margins in the airline industry. Tack on $17.9 billion in total debt for American Airlines Group and you have a recipe for this stock to be grounded.
One final noteI believe it's worth emphasizing once again that stock market crashes are going to happen whether you want them to or not, and they're going to come at random times. Trying to time the market simply isn't going to work in your favor over the long run.
As an investor this means picking out great companies and understanding that these hiccups are going to occur from time to time. If the potential for excess volatility isn't a fear, then some of these aforementioned companies could still be investment-worthy over the long-term. Just make sure you understand your risk tolerance prior to making your investment as you never know what tomorrow could bring.
The article The Worst Stocks for a Stock Market Crash originally appeared on Fool.com.
Sean Williamsis short shares of Tesla Motors, but has no material interest in any other companies mentioned in this article. You can follow him on CAPS under the screen nameTMFUltraLong, track every pick he makes under the screen nameTrackUltraLong, and check him out on Twitter, where he goes by the handle@TMFUltraLong.The Motley Fool owns shares of, and recommends Tesla Motors. It also owns shares of Citigroup. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
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