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What to Do During COVID-19, Based on Past Stock Market Crashes

As stocks plummet in response to the coronavirus this month, the lessons from history’s biggest stock market crashes may help.

“Don’t panic. This too shall pass.”

Those are the words coming from Federal, State and Local governments, medical experts, chief economists, community leaders, and grocery stores hoping to restock their toilet paper supply. But with increasing travel bans and more people out of work, businesses are suffering and the stock market is reflecting economic uncertainty.

The wild swings in the stock market this quarter define this period as one of the most significant events in economic history, placing the coronavirus pandemic in the same league as the Great Crash of 1929 or 2008’s global financial crisis. As of March 18, 2020, circuit breakers have kicked in a historic four times during the month of March, each halting trade for 15 minutes as the S&P 500 fell at least seven percent. The idea of a circuit breaker is for traders to pause, reassess, and make rational (and less anxious) decisions. Yet with a circuit breaker occurring every few days, “don’t panic” may be easier said than done.

For those looking for some relief from the uncertainty, there may be a guide for recovery. Although the reasons for the 2020 stock market crash are unusual, learning from the mistakes of history’s biggest stock market crashes can help traders move forward. These four significant stock market dates — 1929, 1987, 2001, and 2008 — suggest that even in the unlikely coronavirus pandemic, this, too, shall pass.

WALL STREET CRASH (1929)

To date, the Great Crash in October 1929 has had the most dramatic consequences. Unchecked post-war optimism ushered in the Roaring 20s, during which the market saw the Dow Jones Industrial Average increase in value tenfold. This gave investors the confidence to borrow excess money to purchase stocks. When too many investors became over-leveraged, the speculative bubble popped, and investors couldn’t pay their debts.

Investors felt the devastation of the stock market crash more intensely than modern investors would have because of its novelty. According to a 2014 study published in the Psychological Science Agenda, an e-newsletter from the American Psychological Association, people with limited exposure to gains and losses react to them more intensely than those who have more experience. Instead of making the same emotionally-driven decisions of the 1920s, successful investors have since learned to craft reasonable decisions and maintain a healthy amount of realism.

The second lesson to learn from the Wall Street Crash of 1929 is knowing the stock market will eventually recoup its losses, no matter how significant a crash may be. In fact, although the Great Depression lasted through the end of the 1930s, some modern economists argue the investors who owned stocks during the 1929 crash only took four and a half years to recoup their losses. After factoring in deflation, dividends, and the differences in the Dow Jones Industrial Average, the stock market rehabilitated faster than other economic elements in the recession.

BLACK MONDAY (1987)

In the same year Oliver Stone’s film Wall Street highlighted the excess of the 1980s with the infamous “greed is good” speech, October 19, 1987 represented the largest one-day percentage decline in Dow Jones history. Program trading and portfolio insurance hedges accelerated the overwhelming crash on Black Monday.

Though many anticipated a recession, the market bounced back. This proves the stock market can be fickle, so even a stock market crash may be an opportunity to buy stocks at a bargain.

The other important takeaway from Black Monday was the need for safeguards. To avoid a repeat scenario, trading curbs (like circuit breakers) can limit the chance of extreme declines to spiral uncontrollably.

DOTCOM BUBBLE (2000-2001)

Being part of the next big industry movement is every investor’s dream, and during the 1990s, internet startups seemed like they would be just that. Any company that ended with a “.com” seemed like investing gold, so investors and venture capitalists scrambled to cash in on those companies. In the process, many of those investors failed to factor in metrics such as the price-earnings ratio or how they generated cash flow.

The hype accelerated beyond investors. The media expanded coverage of the stock market, and the companies themselves hosted lavish dotcom launch parties.

Unfortunately, many of those companies failed to live up to their expectations. As investment capital began to slow, several of the dotcom companies couldn’t independently generate enough money. By the end of 2001, most of the publicly traded dotcom companies failed and trillions of dollars of stock value disappeared.

This tech bubble serves as a reminder to focus on the fundamentals of the company, such as its prices, profits, and quality of management, rather than chasing a fad.

GLOBAL FINANCIAL CRISIS (2008)

The 2008 financial crisis probably has the most parallels with the economic repercussions of the coronavirus pandemic. The stock market crash in September 2008 represented the failures of financial institutions in the U.S., including defaults on subprime housing loans to everyone (including those who couldn’t inform them). The economic spiral inspired the Federal Reserve to introduce quantitative easing (QE) to stimulate the economy — not unlike the QE the Fed proposed on March 15, 2020.

The housing market affected the stock market in 2008 more than investor arrogance from previous stock market crashes. Similarly, mandated isolation to flatten the curve of COVID-19 proves there can be unforeseen factors in stock market performance. Even when outside elements unexpectedly affect the market, this shouldn’t change your investing plans. Instead, focus on rational strategies with good companies.

And if all else fails, just remember: don’t panic. This, too, shall pass.

Sincerely,

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