The world's biggest financial markets crash in living memory took place on 19 October 1987. In the US, the Dow Jones fell 22.6%. This destroyed the previous record one-day fall of 12.8% set during the Wall Street Crash of 28 October, 1929.
This information features in a detailed and fascinating account of the event and its surrounding context provided by global investment firm Schroders. In a recent extended note it set out to relive what immediately became known as Black Monday of 1987 and to consider lessons relevant to investors today.
Younger readers should begin here. In October 1987 stock markets were in the midst of a five-year bull-run, Schroders recalls. The global economy had recovered from the recession and stagnation that had blighted the 1970s.
October 19 1987
Credit was expanding, house prices were rising and investors were in bullish mood. But things were about to turn sour. In the space of 24 hours on 19 October, global stock markets went into freefall. Yet few could put their finger on the exact reasons why.
In the years since, investors have blamed worries surrounding a turn in the fortunes of the global economy and rising inflation. Others have pointed to rumours of an interest rise in the US and political tensions between the US and Iran that were threatening to spill over.
What can’t be argued with is the fact that there was a collective panic across markets. Losses were exacerbated by new computerised trading floors that were ill equipped, at the time, to prevent the collapse from spreading.
Tales of the financial markets crash
There are almost as many tales of the time as there are different perspectives. D Keith Ross Jr is today executive chairman of Illinois-based US equity trading platform PDQ Enterprises. At the time of Black Monday he was running a small trading group.
It managed its own funds and actively traded in stocks, stock options and futures. He too focuses on technical matters, pointing in particular to solutions that in fact exacerbated the problems. “We were members of the various options exchanges and electronic members of the NYSE,” he says.
“Black Monday was the headline event, but I would say the critical moment was Tuesday morning after Black Monday when the market almost didn’t open. The technical reason was more futures selling for portfolio insurance than the market could handle.
“There were estimates shortly after the fact that that the amount of futures that needed to be sold for portfolio insurance needs were approximately three times the size of the total open interest of the S&P 500 futures market."
D Keith Ross, courtesy of PDQ Enterprises
There was money to be made
With the benefit of 20/20 hindsight Ross believes that there was money to be made. Investors who were either short the market or long puts should have made money, he says. “But when that much market value evaporates so quickly you have to be very nimble to be a winner.
“We were able to keep trading through the storm - reacting quickly each day trying to keep up with the market - and although we lost a lot of money from some takeover deals that we were involved in we were able to make it all back by the end of the month and have a breakeven performance for October."
Black Monday came after a period of sustained gains, resumes Schroders. Most stock markets in developed countries had been growing at more than 30% a year in the five years up to 19 October 1987. These gains - not repeated since - took valuations to record highs.
Central banks to the rescue
As stock markets plunged and investors panicked, central bankers took action: interest rates were cut and the Federal Reserve “encouraged” banks to continue lending to ensure the flow of money wouldn’t dry up. Those policies worked. In the five years following the crash, stock markets made a strong recovery.
- US stock prices grew by 14.7% a year
- UK and European stock markets rose at rates of 8% and 7.6%, respectively
- Global stock markets as a whole posted annual gains of 6.3%
- The Japanese stock market was a notable exception - a banking crisis left investors facing annual average falls of 7.2%
High valuations not necessarily a catalyst
While high stock valuations can contribute to a fall they are not necessarily the catalyst, argues Schroders. Valuations in the US, UK and Europe are higher now than they were in 1987, yet stock markets continue to hit record highs.
Though "for how much longer?" ask the doomsayers who feel another financial market crash is long overdue.
Andrew Rose, an equities fund manager at the Schroders, describes as surreal the atmosphere in London that surrounded Black Monday. “It was an exceptional time for the stock market. We hadn’t seen anything like the performance in stock prices before and we haven’t seen anything like it since.
Andrew Rose, courtesy of Schroders
“And it coincided with one of the greatest storms the UK has ever seen.” This storm, which BBC weather forecaster Michael Fish notoriously reassured the nation was not happening, even as it began to develop on the Thursday night before Black Monday, bizarrely ended up contributing to market falls.
It barely registered elsewhere but became a metaphor for the chaos in the UK in general, and the City of London in particular.
“There was hardly anyone in the Schroders’ London office on the Friday or anywhere in the City,” recounts Andrew Rose. “Matthew Dobbs (an equities fund manager in London at the time of Black Monday and today its head of global small cap at investment) and I were in work because our Tube line was running.
“Anyone coming in on overland trains had no hope. Fallen trees were strewn across roads and rail lines. “With markets closed it meant that investors had to carry their positions throughout the weekend because they couldn’t square them on the Friday.”