Stock Market Crashes Throughout History & What We Can Learn
Note: This post was originally published on ruleoneinvesting.com
You’ve probably heard before that those who do not learn from history are doomed to repeat it.
This saying holds true for many things, including investing.
Looking back at stock market history provides a unique window into what causes the stock market to crash, helping us predict when the next crash might take place.
Let’s take a look at some of the most famous market crashes throughout history and what we can learn from them.
1. Black Tuesday
First, let’s talk about Black Tuesday, 1929. The Black Tuesday stock market crash that took place in 1929 remains the worst crash in US history.
Over a four day period, the Dow Jones dropped 25% and lost $30 billion in market value – the equivalent of $396 billion today.
It was this crash that kicked off the Great Depression in the United States.
Experts agree that the cause of this crash was largely due to over-optimistic investors.
Just a few years prior to the crash, margin investing was invented, allowing investors to borrow money to buy stocks.
This ability combined with a strong bull market led most everyone to invest without caution, causing the market to rise about 20% a year from 1922-1929.
When signs of a bear market started showing, though, the panic was swift and devastating.
The danger of over-optimism in a bull market is the primary lesson that can be learned from the Black Tuesday crash.
When investors trust the strength of the market without caution, the results are never good.
2. Black Monday
On October 19, 1987, the Dow shed 22% in a single day, ending a five-year bull market.
It was a drop that came out of nowhere, and experts are still largely in disagreement about what caused the stock market crash.
While there were some ominous signs such as slowing economic growth and rising inflation, there was nothing in the economic climate that would have predicted such a sudden and significant drop.
Surprisingly, the crash only lasted one day, and the market soon climbed back to its highs. However, investors were still left badly shaken by the sudden crash.
What the Black Monday crash teaches us is that the market is a fickle beast, and sometimes crashes are almost impossible to predict.
It does, however, also teach us a more optimistic lesson as well – the market tends to recover quickly from even the most dramatic crashes.
3. The Tech Bubble Crash
The 1990s were a period of rapid technological development, and the commercialization of the internet caused valuations of internet-based companies to sore.
Investors excited about the potential of investing in the “next big thing” threw their money into any company that had “.com” after it without abandon.
However, the hard lesson they soon learned was that most of these companies were doomed to fail.
In March of 2000, large companies began placing sell orders on their tech stocks, causing a panic that led to a 10% drop in the market within a few weeks.
By 2001, the majority of new tech companies – no longer propped up by investor money – disappeared from existence, causing hundreds of millions of dollars of investor money to go to zero.
The importance of carefully evaluating a company no matter how trendy they might be is the primary lesson we can learn from the tech bubble crash.
Had investors taken more time to assess the fundamentals, management, moat, and other factors of these companies rather than blindly hoping they were investing in the next big thing, much of the pain of the tech bubble bursting could have been avoided.
4. The Housing Market Crash
And finally, this is the one you probably remember — the housing market collapse of 2008.
Over the course of 2008, the Dow fell almost 34%, and it wasn’t until early 2009 that it began to climb again.
As the name suggests, it was the real estate market that led to this collapse.
However, the exact factors at play are complex, and economists disagree over whether the banks or the fed share more responsibility for the crash.
What we do know, though, is that financial institutions were taking on risky loans thanks to declining foreclosure rates and the fact that the Federal Reserve Bank was keeping the federal funds rate below 2%.
Once real estate prices began to drop and the federal funds rate began to rise, credit in the US froze, leading to an economic collapse.
The lesson behind the housing market collapse is that companies are often affected by factors outside their control, meaning that investors must keep an eye on all economic conditions.
The real estate market and the stock market are two entirely different markets, yet the collapse of one quickly led to the collapse of the other.
Nevertheless, most high-quality companies survived the crash and soon went on to climb to the highs we see today.