Many investors vividly recall the anguish. It was one of the worst periods in the history of the stock market, a vicious and speedy decline in the Dow of 12.4%, or 1,063 points, in a mere six days — August 26–31, 1998.

That bloodbath stemmed from the fiasco involving Long-Term Capital Management, a multibillion-dollar hedge fund that suffered huge losses through the use of heavy leverage on some large currency and debt bets that went awry, especially yen-dollar trades. As a result, the willingness of investors to buy high-yield debt dried up dramatically and stock prices headed to the cellar.

Could we be in for a repeat performance of the LTCM debacle? One stock market worrywart, investment adviser Michael Larson, raises this very issue, but he’s not forecasting a similarly wicked decline. Rather, he thinks a mini version could be in the cards because of what he sees as striking similarities today to the events that provoked the hedge fund’s crisis nine years ago. In particular, he points to the following:

• The yen’s rise against the dollar.

• The sudden and swift repricing of risk in the marketplace, namely the investor’s reluctance to shell out lofty prices for high-yield bonds.

• A widening spread between high-yield debt and Treasury debt.

• Growing mortgage risks as a result of frivolous lending policies, such as the ability to borrow more than the value of the house.

Reflecting these similarities, Mr. Larson, the associate editor of a monthly newsletter out of Jupiter, Fla., Safe Money Report, sees some ominous implications.

For starters, he points to spillover problems for the housing industry, which, he notes, is already mired in a recession. He bases this premise on falling prices; ballooning inventories; a low level of existing home sales, the lowest in 22 months; the 16.6% drop in new home sales in January, the worst monthly showing since 1994; surging delinquencies and foreclosures; and loads of faulty sub-prime loans.

At present, there are about $1.2 trillion sub-prime mortgages outstanding, with an estimated 7% to 8% under water. And the figure is widely expected to rise.

Mr. Larson expects already swelling resistance to bonds made up of high-risk mortgages to accelerate, perhaps laying the groundwork for a potential credit crunch by spilling over into conventional-type loans. These would include loans, he says, for conventional real estate mortgages and for building shopping centers, and loans to companies to add inventories and build factories.

With credit risk being appreciated again, Mr. Larson also says the brisk selling in the shares of certain high-risk lending financial institutions and sub-prime mortgage companies — many of which have been going belly up — is far from over. He points in particular to the vulnerability of conventional lender Countrywide Financial; Wachovia Corp., the owner of West Coast thrift Golden West Financial, which specializes in adjustable-rate mortgages; and sub-prime mortgage lender New Century Financial, even though its shares have already collapsed to less than $4 from $30.50 in early February.

Mr. Larson believes his concerns could add up to bum tidings for the economy, aggravated by his expectation that many banks will be reluctant more to make loans. Also, the housing slump, the chief economic driver in recent years, will drag the economy down even more.

There is some Wall Street talk that housing is stabilizing, which Mr. Larson vehemently disputes. He expects housing to struggle for the balance of the year, as well as in part of 2008, and he sees plenty of job losses related to housing. He also raises the possibility of another 10% drop in housing prices. All of this, he believes, could trigger the snowball effect of more financial and loan losses.

Given his bleak outlook, he thinks the Fed’s projected GDP growth this year of 2.5% to 3% is far more likely to come in at the lower end of the range. He also thinks there’s a 40% chance of a recession.

What does it all mean for the American stock market? “A lesser version of the LTCM sell-off,” he says. Part of this, he contends, occurred on bloody Tuesday, when the Dow tumbled 416 points.

“We’re not done with the selling because of risk being repriced in the market,” he observes. Noting that the Dow is down about 6% from its February 20 high of just under 12,800, he believes that another drop of about 5% or so, to 11,700, lies ahead.

“It’s a mirror of what happened in 1998. There’s still more to see, and it doesn’t look good,” he says.

dandordan@aol.com