The S&P 500 will crash 30% by December as spending slumps, profits shrink, and banking problems mount, markets guru Larry McDonald warns

• The S&P 500 will plunge by almost 30% to around 3,000 points by December, Larry McDonald has warned.
• He sees less government spending, slimmer corporate profits, and banking pressures as key drivers.

Brace for the S&P 500 to crash nearly 30% by December, as a triple-whammy of shrinking corporate profits, less government spending, and fractures in the financial system deal a staggering blow to stocks, Larry McDonald has warned.

The markets guru and founder of "The Bear Traps Report" told Insider this week that he expects the benchmark US stock index to plummet from about 4,200 points today to 3,000 points by the end of this year, which would mark its lowest level since June 2020.

McDonald made a similar call in early March, when he declared the stock market could tank 30% within the next 60 days. The S&P 500 has gained 5% since then, and is up nearly 10% this year. However, McDonald argued his prediction wasn't totally off the mark.

"Internally we have crashed," he told Insider. "What hasn't crashed - where I'm wrong - is the capital moved out of these crash spots and into hiding spots."

McDonald meant that investors have sold a bunch of blue-chip stocks in recent weeks, but instead of parking the proceeds in Treasuries as he expected, they've plowed them into other stocks they view as more resilient to a recession. Their picks have included Hershey's, McDonald's, Dick's Sporting Goods, and artificial-intelligence plays such as Nvidia and Microsoft.

Indeed, about a fifth of the S&P 500's constituents are down at least 10% this year, and around half the index is in the red, SlickCharts data shows. That means the index's almost double-digit gain since January has been driven by a relatively small number of stocks.

Worrying signs

McDonald is a former trader and the author of "A Colossal Failure of Common Sense: The Incredible Inside Story of the Collapse of Lehman Brothers." He drew several parallels between the current market setup, and the backdrop before his former employer collapsed in 2008 and touched off the Global Financial Crisis.

"It's a slow-moving trainwreck," he said, listing off several flashing indicators that signal pain lies ahead for investors and the US economy. "The serpent is near, the beast inside the market is telling you something."

For example, McDonald singled out the nearly 30% drop in MetLife stock this year, and noted large insurers don't usually lag the market by a huge amount "unless something very big is happening." He suggested the decline reflects concerns about the company's vast commercial real-estate portfolio, which has likely come under pressure from higher interest rates and tighter credit.

The veteran market analyst laid out the factors he expects to drag stocks down by 30% over the next seven months or so. He asserted that post-pandemic government largesse has helped to stave off a recession, but Republicans could soon force the Biden administration to rein in its spending in exchange for raising the debt ceiling.

"That's going to let a lot of air out of the balloon," he said. "S&P earnings have been supported by ridiculous deficit spending."

McDonald also made the case that stock valuations should recede given the current financial turmoil. Several banks have collapsed or been rescued by bigger rivals in recent weeks, stoking concerns that lenders might pull back to protect themselves from bank runs, and inadvertently cause a credit crunch.

Moreover, American consumers and businesses are feeling the squeeze from historic inflation and higher interest rates, which is putting pressure on asset prices and threatening to drag the economy into a recession. The prospect of less spending and investment, stricter lending, steeper debt payments, and greater unemployment bodes poorly for corporate profits and stock prices.

McDonald offered some advice for weathering the downturn he's expecting. He cautioned against owning the main US stock indices as they're too exposed to high-flying tech stocks. Instead, he recommended beaten-down, cyclical stocks in sectors such as energy, and hard assets such as gold, silver, and platinum.