When the stock market crashes it can often be difficult to define exactly what caused the downturn. It’s rarely ever black and white. However, there are some key factors that will often have a part to play when there is a dip in the market. We’ve taken a page out of the history books and explored four of the biggest market crashes from the past century and why they happened.
Black Thursday, 1929
Key factors: Speculation and expectation, buying on margin, agricultural sector failing
Down by: 83.4%
Arguably the most famous of stock market crashes, Black Thursday that eventually led to the Great Depression left many nations around the world in a state of despair for over ten years. Australia was not immune to the market slump, which saw our economy collapse and, at the peak of the Great Depression, unemployment rise to 32%.
There were a number of factors that contributed to the Wall St crash of 1929. During the ‘roaring twenties’ the stock market saw rapid expansion and people from all walks of life began putting their savings into stocks deeming it to be a safe bet. The speculation was dangerous, but what made it worse was the growing number of people buying stocks on margin. Buying on margin meant that the investor only needed 10-20% of their own money to buy a stock and the remainder they typically borrowed from a broker. If a stock price fell lower than the loan the broker would likely issue a ‘margin call’ requiring the investor to repay the loan immediately.
Related articles: 3 Common Mistakes Investors Make During A Downturn
Simultaneously, the agricultural sector was struggling due to falling food prices and drought, consumer debt was on the rise and banks had an excess of large loans that could not be liquidated. Despite all this, stock prices continued to rise. On 29 October, 1929, now known as ‘Black Thursday’ investors began selling overpriced shares en masse leading to the crash. On Black Thursday 12.9 million shares were traded, three times the normal amount.
Once stocks began falling market sentiment and confidence followed suit. This caused investors to withdraw their money from the banks and with less money in supply the worse the effects of the crash became.
Black Monday, 1987
Key factors: Computerised trading, hostility in the Persian Gulf and a five-year ‘bull market’ without any corrections
Down by: 29.6%
The 1980s was a decade defined by the mantra ‘Greed is good’ but that bullishness came to a pretty abrupt end with the market crash of 1987. On 19 October, 1987 (now known as Black Monday) the Dow Jones fell 22.6% – the worst plunge ever.
The initial cause of the crash has been attributed by some to the computerised trading that allowed for ‘stop loss orders’, which were in abundance at the time. Stop loss orders, is the practice of selling a stock once it reached a certain price. It’s designed to limit an investor’s losses. This practice began to liquidate stocks as soon as loss targets were hit. With so many stop loss orders in play, they simultaneously bought the price of stocks down. This coupled with heightened hostility in the Persian Gulf, which further lowered market sentiment, resulted in the biggest one-day percentage crash in history – a recorded still unsurpassed today.
After the Black Monday crash circuit breakers are designed to limit panic selling by temporarily stopping trading on a particular stock or securities once it reaches a pre-determined point.
The Dot Com Bubble, 2000
Key factors: Speculation and expectation
Down by: 44.7%
The Dot Com Bubble began in 1997, on the back of a strong and steady decade on the stock market, and burst in 2000. Many have attributed the creation of this bubble to the rise of the internet and subsequently internet companies. Investors were so excited by the new technology and the potential of the internet that many began to buy into any and all tech companies. Investors at this time were complacent, seeming to ignore whether or not a company was profitable or would eventually become profitable.
With investments and plenty of excitement, the value of tech stocks began to grow. At the peak of the bubble the price of many tech stocks were greatly over-inflated. The bubble did eventually pop in 2000 when a number of leading tech companies placed huge sell orders on their stocks, sparking panic selling among investors. This crash resulted 130 internet companies folding and 8,000 job losses. It’s a poignant reminder to investors to always do your research and don’t just follow the trends!
The GFC, 2008
Key factors: Lack of regulations, credit crunch, supply and demand
Down by: 50.9%
How the Global Financial Crisis (GFC) came into being can be quite complicated and convoluted because frankly the whole thing was rather dodgy. Essentially, it can be put down to unscrupulous lending.
This market crash is commonly perceived to have been generated by the US housing market and specifically sub-prime mortgages. A sub-prime mortgage is a mortgage provided to borrowers with low credit scores and often granted with no down payment or proof of income required. These risky mortgages were handed out by banks because large investment firms were willing to buy them.
As more and more home owners defaulted on their loans the supply for houses went up and demand fell. This caused property values in the US to decline significantly. Simultaneously, banks who were handing out these loans fell into bigger and bigger debt. Investment firms who had also bought some of these loans were holding a ticking time bomb and began to collapse, the first of which was Lehmann Brothers who filed for bankruptcy in 2008. Essentially, this credit crunch, of exponential proportion severely shook market confidence and resulted in an international market downturn.
Want to learn more about the GFC? Check out this article, or alternatively watch The Big Short (brilliant movie!).
‘Those who do not learn history are doomed to repeat it.’
Understanding the factors that have the ability to influence the market should provide greater awareness on how the stock market works and, in some cases, how it doesn’t work. Although, it is worth noting that despite the borderline astronomical crashes that took place (ok, a slight exaggeration) the market has bounced back. What this can mean for those who are in it for the long haul is you may want to breathe a sigh of relief knowing that generally the market does recover. For short term investors, it means that you may want to keep your ear to the ground and a watchful eye on market movements and trends.
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