Wall Street wouldn’t be Wall Street without its perennial prince of darkness – that legendary gloom-and-doom figure who seems to pop up near the end of each year to warn us we’re on the verge of a stock market crash.

This year’s prince is investment advisor James Shepherd, who manages and directs more than $1 billion in assets under the banner of Shepherd Capital Management of Spokane, Wash. He also publishes a monthly newsletter, the Shepherd Investment Strategist.

While the investment community is predominantly bullish as it approaches 2005, not so Mr. Shepherd, who predicts a bloody year ahead. “We’re dangerously close to a major decline and approaching a stock market crash that will make 1987 look tame,” he tells me. (In October of 1987, the Dow, sparked by poor tidings on the trade deficit, tumbled 508 points or nearly 23% in a single session).

For starters, Mr. Shepherd points to striking similarities between now and October 1987, such as a ballooning trade deficit, very high levels of insider selling, rising interest rates, a weak dollar, heavy speculation, a great deal of optimism, investor complacency, and low volatility.

Mr. Shepherd said his proprietary investment model – which he claims has called many major turning points in the market (both up and down) and signaled the October 1987 crash in early September of that year – is currently flashing the most bearish signs since that September.

His model tracks a bevy of indicators, among them trends in short and long-term interest rates, levels of inflation, money supply, and price/earnings multiples.

Given his outlook, he concludes – which most of us would surely find far fetched – that the Dow, about a year from now, will be down about 40% to 50% and trade close to 5,000, versus yesterday’s close of 10,552.

As outlandish as this forecast seems, Mr. Shepherd observes that such a drop is far from out of the realm of possibility when you consider the extent of other market calamities. Among them:

* In 1989, Japan’s highly speculative Nikkei index plunged from the 39,000 level to around 15,000, a drop of 60%. In 2003, it went below 8,000 to a new low, which extended its spill to almost 80%.

* The 1929 U.S. market, once it cracked, went down over 89%.

* The Nasdaq, starting in 2000, plummeted more than 80%. And like the Japanese market, Mr. Shepherd said, it’s about to fall again soon.

He went on to point out that manias, including real estate and collectibles, normally will drop 40% from their highs initially; likewise, once a market moves below its support level, it almost always goes down below fair market value before moving up again. Accordingly, he believes it is reasonable to assume that this market, once it starts to move down from current levels, will most likely decline to near 5,000 in the Dow and possibly even lower.

One key reason for the grim outlook is his concern about the vigor of the economy, which he contends “is anything but rosy.” In the case of most companies, Mr. Shepherd notes, rarely is there an actual expansion these days in gross revenues. Although there appears to be a recovery in corporate profits, he went on, what’s really happening is that revenues have remained flat to lower, while net profits have increased due to cost-cutting, much of which reflects employment cuts.

Another of his worries is the financial muscle of consumers who are saddled with record levels of debt in a period accompanied by record levels of foreclosures and bankruptcies. Noting that the average American household is currently burdened with $85,000 in debt, including mortgages, Mr. Shepherd observes that if the economy should slow down or interest rates head higher, many Americans would have a rough time servicing their debt. (Coincidentally, the Conference Board’s index on consumer confidence in November fell to the lowest level in eight months).

Yet another worry, according to our bear: The Fed, which has been struggling with the inflation/deflation issue for some time, seems confused as to how to ensure continued economic growth. He also observes that if the economy were to enter into a deflationary spiral – which he views as a very high probability at this time – the value of most assets, including stocks and real estate, would be devastated.

“We’ve had a period of dramatically declining interest rates which propped up the economy and the stock market, but that good news is now behind us,” he said.

Wrapping up, Mr. Shepherd observes that “if the stock market were to crash during an ongoing secular bear market amid an ever weakening economic environment [which is what he believes is now the case], the results would be devastating for an extended period of time.”