Remembering the Market Crashes of Yesteryear

Meir Barak |

Market_Crash.gifThe past few years have been pretty good for US stock markets. Since 2008, stocks have been rising on a regular basis, making up for plenty of ground lost in the economic meltdown - in the US, at least.
In times like these, it’s easy to get comfortable and begin dreaming of a comfy retirement at your favorite beach. However, if you run a statistical check of the average period between each crisis throughout market history, you'll discover that during your own adult lifetime, at least three crises will occur. In fact, one anomaly occurred in just the last decade of 2000-2010, during which two of biggest crises in market history occurred in close proximity: the Dot-Com Crash and the Sub-Prime Crash.

In other words, if you're a short-term investor, there’s a reasonable chance that sooner or later you'll lose a sizeable portion of your capital. If you have the good luck to experience a first crisis around the age of forty, there’s a good chance of survival, but if it catches you when you're sixty-five, you might never have the opportunity to rescue your pension. Financial crises can be disastrous for millions of investors, as well as anyone who relies on a steady paycheck to provide for themselves and their families, but they’re an inevitable aspect of free market capitalism. It’s not always the most pleasant topic, but it’s can be exceedingly useful to know what to look out for. So, in that spirit, let’s take a not-so-nostalgic look back at some of the darker days in US stock market history.

The Great Depression: Black Monday and Tuesday, 1929

The crash of Black Monday, October 28, 1929, with its 12.8% drop, followed the next day by Black Tuesday with its 11.73% drop, are known as “The Great Crash.” This led to a ten-year economic slump known worldwide as “The Great Depression.” The crisis occurred on the heels of the era known as “The Roaring Twenties,” a contrasting period of some ten years during which America wildly celebrated the victory of the First World War, living on endless credit, with real estate prices going through the roof.

Unlike other crashes, the Great Depression lasted several years, dipping to an all-time low in July 1932, which marked the lowest slump of the entire twentieth century’s capital market. The market only recovered to its pre-slump level in November 1954. In actuality, young adults who held stocks prior to the slump spent the bulk of their adult lives waiting for the recovery.

Black Monday, 1987

As in other crashes, herd panic swayed the game on October 19, 1987. In 1929, the “herd” flooded the streets and swamped brokers’ offices. In 1987, the “herd” blocked the brokers’ telephone lines. Hysterical “sell at any price” and “get me out” orders arrived from across the United States. At some point, the brokers and market makers stopped answering the calls, and the market collapsed. The crisis commenced in Hong Kong, spread to Europe, hit the United States and caused a staggering index drop of 22.8% in just one day, marking the greatest ever single-day drop. Amazingly, despite this event, 1987 still ended in net gains for the year!

As usual, following a bubble’s burst, someone needs to earn a living from creating new regulations and setting new standards. Within the bubble’s craziness, the SEC put forward new rules meant to protect the private investor and prevent a repeat of this event. The newly-instigated changes focused on the market makers’ role. The SEC decided that in order to guard the market from panic crashes and prevent a “sellers only” situation, market makers would be obligated to buy a certain amount of shares from the public during rate drops. The new law was passed shortly after the crash, and calmed the regulators’ consciences for another brief period.

The Dot-Com Crisis

The dot-com bubble burst on Monday, March 13, 2000, following five years of sharp rises. On that Monday, the start of the trading week, the market opened with a gap of 4%, down on the NASDAQ index as a result of the miserable timing of several parties which simultaneously sold shares in Cisco Systems Inc. (CSCO) , International Business Machines Corp. (IBM) and Dell Inc. (DELL) at a value of billions of dollars. The drop ignited a wave of sellers, eventually leading to a loss of 9% over the next six trading days.

The bubble was structured around the euphoria which peaked with the invention of new, unprecedented economic models based on “market penetration” instead of profits and on “unadvertised costs” and other innovations that matched the spirit of the times. For as long as money flowed into the hi-tech industry, especially in light of the low interest rates of 1998 and 1999, the boom kept growing. In 1999 and the start of 2000, when the government increased the interest rates six times in succession, money was made more expensive, and the new economic models began to collapse like a house of cards.

At the peak of the crisis, the NASDAQ index representing tech stocks lost some 80% of its value, and the S&P 500 lost 46%. As a hi-tech entrepreneur and beginning trader, I personally experienced this crash. I recruited millions of dollars from investors for startups I established, and rode the peaks and valleys of that period from every angle possible. These were also my initial years as a trainee trader. In fact, I owe the positive change in my life to the Dot-Com Crisis, which, like so many others, left me unemployed –and forced me to seek alternative employment in the world of stock trading.

The Credit Crunch (Sub-Prime)

The credit crunch, more commonly known as the “Sub-Prime Crisis,” burst onto the American market in the summer of 2007 and developed into an overall worldwide economic crisis. Its opening shot was in September 2008, with the collapse of Lehman Brothers Investment Bank and the nationalization of AIG Insurance Company. The panic peaked in October and November 2008, during which the market lost some 30% of its value (yes, October once again…). Prices continued dropping until they reached their low in March 2009. In the final run, just eighteen months from the October 2007 peak, the market lost 57.4% of its value.

The source of the crisis, as with the 1929 Crash, is in the decade of almost unlimited credit at low interest rates given to anyone who asked for it, as well as in the real estate market, which developed into a boom, then burst, dragging worldwide lending banks down with it.

Crises of the Past Decade (S&P 500 Index)     

SPX_Crises.jpg                                                   

The Dot-Com Crash began in [1] March 2000, dropped until [2] September 2002, and lost a total of 46% value.  From this point the market rose to a peak [3] in October 2007.  The Sub-Prime Crash [4] began in October-November 2008, reaching its lowest point [5] in March 2009.

Crises and Traders

The first crisis I experienced as a trader was the Dot-Com Crash of 2000 to 2002. Unfortunately, as a novice trader, I was insufficiently experienced to benefit from the events, but I did benefit from the rises that followed. The Sub-Prime Crisis, by comparison, was a real celebration. In October 2008, I tripled my trading account in one month alone! Remember, though the widespread losses and uncertainty caused by a financial crises are always unfortunate, but in the hands of a skilled and experienced trader, the high fluctuation, public panic, and the ability to execute shorts are important and potentially valuable tools.

 

To learn more about the stock market and to begin your own journey toward financial independence, visit Meir Barak's site Tradenet and check out his book "The Market Whisperer".  

DISCLOSURE: The views and opinions expressed in this article are those of the authors, and do not represent the views of equities.com. Readers should not consider statements made by the author as formal recommendations and should consult their financial advisor before making any investment decisions. To read our full disclosure, please go to: http://www.equities.com/disclaimer

Companies

Symbol Name Price Change % Volume
IBM International Business Machines Corp 165.74 0.38 0.23 1,406,927
CSCO Cisco Systems Inc. 29.90 -0.05 -0.15 10,554,954

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