Walmart Stock is Sounding a Warning Bell for Investors, and It's Ringing Out at Its Loudest Since the 2008 Financial Crisis. History Paints a Clear Picture of What Happens Next.

The S&P 500 has stumbled in recent weeks and even delivered a negative performance in the first quarter of the year as it dropped 4.6%. Many investors hesitated to buy stocks, and the reason is clear: They worried about elements that could disrupt growth, from the potential for weakness in the artificial intelligence (AI) revenue story to the war in Iran.

All of this has created volatility, with the index swinging from gains to losses depending on the news of the day. And this movement, too, has weighed on the minds of investors.

Amid the turmoil, one particular stock is sounding a warning bell for investors. This company is very well known and is a part of daily life for many. I'm talking about retail giant Walmart (NASDAQ: WMT). Jim Paulsen, who retired as chief investment strategist at The Leuthold Group in 2022, continues to follow the market closely and recently highlighted this message from Walmart stock.

Let's check it out -- and consider what history says may happen next.

Image source: Getty Images.

Walmart as a barometer

As you probably know, Walmart sells a broad range of goods, from groceries and essentials to general merchandise, and the company's focus is on value. So you can count on Walmart for extra-low prices. Lower-income individuals usually feel the pressure of recessions before others and feel it more deeply, Paulsen wrote last week in a Substack post. His theory is that Walmart, which often serves the most cost-conscious consumers, may be a good barometer of the economy.

With this in mind, Paulsen compares Walmart's stock performance with the S&P Global Luxury Index -- outperformance by Walmart could suggest a recession or slowdown is on the horizon. This is because, as these situations build, purchasing tends to be stronger at discounters versus luxury goods companies. Paulson updated the Walmart Recession Signal in his post, showing that it has reached almost its highest level ever -- that level was recorded during the financial crisis in 2008.

Paulsen doesn't forecast a recession this year, but says he's "becoming more convinced" that a significant slowdown is developing. And this comes at a time when fellow experts also are becoming more cautious about the U.S. economy -- for example, Goldman Sachs recently increased its recession probability to 30%.

Now, let's consider what history says this may mean for the stock market. In the chart below, we can see periods of U.S. recessions -- the shaded areas -- and the dip in the S&P 500 that generally has accompanied those times.

S&P 500 data by YCharts

What valuation tells us

So, if the economy enters a recession, history suggests stocks will likely decline. But what if, as Paulsen suggests, the economy simply enters a slowdown? Before answering that question, it's important to take a look at another metric: the S&P 500 Shiller CAPE ratio. This is an inflation-adjusted measure of stock prices in relation to earnings per share. It offers us a clear picture of valuation today, and we can see how it's evolved over time.

And today, the Shiller CAPE ratio has reached a level it's only surpassed once before in history -- during the dot-com bubble.

S&P 500 Shiller CAPE Ratio data by YCharts

Stocks are expensive, and even recent declines haven't been enough to bring the overall price level back down to Earth. What happens when valuations are at peak levels? History shows that the market has declined on those occasions.

S&P 500 Shiller CAPE Ratio data by YCharts

So, Walmart, with its outperformance in relation to the luxury index, is sounding a warning bell for investors. And history paints a clear picture of what could happen next: Whether the economy slows significantly or slips into recession territory, the stock market, at today's high valuation level, may be heading for further declines.

There are two silver linings in this dark cloud, however: First, a drop in stocks should bring valuations down, and lower valuations offer investors buying opportunities. So you may find high-quality stocks trading at excellent levels. And second, history also shows us that the market has always recovered after tough periods and gone on to reach new highs over time. This means that, by holding on to your quality stocks over the long term, you can weather any market storm.

Adria Cimino has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Goldman Sachs Group and Walmart. The Motley Fool has a disclosure policy.