In another article, we mentioned some of the history’s worst stock market crashes and how to avoid being caught up in an upcoming collapse. In this article, we are looking at the definition of a stock market crash and provide some more examples of the stock market crashes that occur in the U.S. history.
The history of stock market crashes in the past goes way back than one may assume. In terms of what triggered some of these crisis can sometimes be not that complicated. The reasons of the past stock market crisis include tulips, leveraged buyouts, and dot.com implosions.
What is a Stock Market Crash?
As the name a stock market crash suggests, it occurs when short bursts of market downturns occur. These usually last as short as a single day, but can also last much longer and affects many people all around. It is not uncommon that a stock market would turn paper millionaires into bankrupt individuals living with great financial difficulties.
How Does a Stock Market Crush Occur?
A stock market crash occurs when a high-profile market index, such as the Dow Jones Industrial Index (which is mentioned in detailed in the previous related article) or the Standard & Poor’s 500, hit the bottom of the chart. This causes investors to turn into sellers instead of buyers in an instant. A stock market crash does not have to occur due to an immense fall. Any market day where stocks fall by 10% or more can be considered as a market crash. In fact, historically speaking, they happen on a fairly frequent basis.
The opinions of analyzers and historians differ in considering the actual number of stock market crashes throughout history. In the U.S., there have been six major market collapses recorded, where the stock market lost over 10% of its value.
The First Recorded Stock Market Crash Occurred Over Ottoman Tulips
In terms of looking back to history towards 17th century, the first records of stock market crashes can be said to date back to the year 1634 when the first speculative bubble on Dutch tulips created the first market crash in the world. After the tulip was first imported from the Ottoman Empire (now Turkey) to Europe, the unseen exotic beauty of the flower created high demand among the Dutch elite, who began to consider the tulip as a symbol of status and prestige. Prices increased immensely in between the years 1634 and 1637, and soon speculators began buying up all the tulips they could as prices soared. But as the interest decreased in the plant, prices collapsed and ended up bankrupting speculators who had assumed the run-up in the value of tulips would last longer. This has created it the “ripple effect”. This “ripple effect” from the plant collapse led the Dutch economy into a depressionary tailspin that took years to recover for the country.
Exemplary U.S. Stock Market Crashes
The U.S. history has witnessed major U.S. stock market crashes several times. The good news is that all of the crashes were followed by recoveries. Some recoveries took much longer than the others but it eventually recovered fully. Below there are four examples to analyze:
1-The Stock Market Crash of 1929
The first major U.S. stock market crash occurred in October 1929 after the decade-long “Roaring 20s” economy ran out of gas. Speculators ran wild in the stock markets with commodities like houses and automobiles selling like hotcakes. As a result, many investors borrowed too much money to purchase stocks and when the market bubble finally popped, those investors couldn’t meet their debt obligations and fell into bankruptcy.
The same combination of borrowed money to buy securities, inflated stock prices and high leverage became a formula for more market crashes in the years to follow. In this specific incident, the stock market fell 12.82% on the fourth day, also known as the “Black Monday”, of the crash and it took 12 years for the U.S. economy to recover back from the Great Depression that spread after the market crash. In an ironic manner, the second world war was the biggest factor for the nation’s long-term recovery due to the fact that the country began to fasten the manufacturing effort needed to win the global war on two fronts.
2-The Stock Market Crash of 1987
The stock market, which is also known as “Black Monday the 2nd,” of 1987 also occurred in October. This stock market crash is still known to be the largest single-day market loss in U.S. history. This particular crash also had the same combination of speculators and highly-leveraged borrowers, as well as a new twist to the bubble-popping mix: Technology.
In October 19, 1987, share prices boomed leading up to Black Monday the 2nd due to highly-leveraged corporate takeovers and buyouts taking the main floor, and companies accompanying them as they leveraged questionable financing tools like margin accounts and junk bonds. In October 19, the market hit the bottom and sellers dominated market trading. It was a vicious cycle of more investors selling and even more investors panicking and then selling more aggressively and so on. This cycle continued through the trading day, as computer trading thanks to technology made it easier and faster to place sale orders.
The aftermath of the trading day was that the stock market has lost 23% of its value and market gurus began to take the initial steps to install circuit breakers into computer trading platforms that would literally allow market executives to restrict the trading done by the computer programs and “pull the plug” on trading. This gave reeling stock markets a much-needed breather in future high-risk market trading days. Once the technology stock market stabilized with the cautions taken, and more long-term success stories like Microsoft, Apple and Cisco emerged, the stock market grew stronger and had a successful 12-year bull run.
3-The Dot.com Bust of 1999-2000
The stock market crash of 1987 experienced a market loss of 23% in a single day of trading. However, other stock market crashes take longer as losses stack up after repeated trading sessions. That was what happened in the dot.com market collapse of 1999-2000. In this crash, technology was again the main player. As investor interest in internet stocks boomed over the course of the 1990s, and as “new economy” companies like AOL, GeoCities, , Webvan.com, Globe.com and Pets.com saw share prices rise substantially the market could not hold longer.
Globe.com was an initial public offering sensation. It began to open at $87 per share in first-day trading in 1998, even though the original asking price was only $9 per share. Globe.com managed to raise $28 million in its IPO and had a market cap of $842 million. After only two years later (in 2000), Globe.com, like many dot.com companies, fell out of favor as its investors began to fly away from the highly-inflated tech stocks. Two years after, Globe.com was trading under $1 per share, and was soon delisted by Nasdaq. With investors furiously shedding technology stocks like Globe.com, the technology-oriented Nasdaq fell from 5,000 in early 2001 to just 1,000 by 2002.
It only managed to recover after Wall Street began to evaluate the real financial stability of high-tech companies more accurately as investors grew more discerning and more conservative about which stocks and funds they bought.
4-The “Great Recession” Stock Market Crash of 2008
As Wall Street banks’ high-risk trading practices nearly took down the greatest economy in the world, many Americans may have not even realized just how close the U.S. financial sector came to crash during the stock market collapse of 2008 and 2009.
The stock market crash of 2008 was fueled by the widespread use of mortgage-backed securities, which were supported by the U.S. housing sector. These products, which were sold by financial institutions to the banks, investors, and pension funds, declined in value as housing prices ceded back. This was not a surprised for some, though. This scenario started in 2006.
Less and less American homeowners were able to pay off their mortgage loans, MBS values plummeted, and sent financial institutions into bankruptcy. While the investment risk was at the highest, investors were not willing to provide the necessary liquidity in the nation’s financial markets.
The U.S Congress had to interfere and soon, it approved an immense government funding project that not only stabilized the markets, but also bailed out some big banks. This was not all. In addition, the Federal Reserve bought up languishing mortgage securities and pulled interest rates toward zero percent. The strategy mainly worked, as the stock market, which was not stable for two years, began climbing again in late 2009. Afterwards, the economy began to recover at a fast pace.
Lehman Brothers Role in the “Great Recession” Market Crash
Some observers in the economy sector underscore the collapse of Lehman Brothers as a key trigger for the stock market meltdown in 2008. That can be true to some degree since Lehman Brothers’ use of high-risk derivative products; such as repurchase agreements (also known as “repos”) as collateral to borrow for short-term financing purposes, demonstrate a case certainly exemplified the high-risk leverage Wall Street firms abused in the run-up to the Great Recession.
Yet Lehman Brothers took things even further in mid-2008.
When the “repo” loans lost its popularity, investors demanded more-stable forms of short-term loan collateral, and even stopped approving repo agreements as collateral. Many of the investors also asked Lehman Brothers to payback its short-term debt obligations in full. In addition, Lehman Brothers’ portfolio of mortgage-backed securities, which were once considered as fully sufficient, declined substantially in value. That left a highly-leveraged Lehman Brothers in a position with no way to cover its debts. Soon the giant investment banking fell into bankruptcy.
With insufficient number of investors to save the company, Lehman Brothers officially declared bankruptcy on September 15, 2008. It is important to point out that only 18 months before this incident took place, the company’s stock price was trading at $86 per share, and the company had reported net income of $4.2 billion in 2007.