Are We Setting Up for a Replay of the 1987 Market Crash?
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Are We Setting Up for a Replay of the 1987 Market Crash?
Some see eerie similarities between today's economy and the conditions of 36 years ago—not to mention the current strike and a possible government shutdown
October, often referred to as "jinx month" for stocks, is known for history's "most spectacular" market crashes—including in 1929 and 1987. In fact, October has had seven of the Dow's 10 worst days ever.
Overall, October is a fairly good month, and based on historical price patterns, stocks typically move forward in Q4.
But as the anniversary of the Oct. 19, 1987, stock market crash approaches this week, some investors are nervous stocks are following the same pattern that preceded the '87 crash 36 years ago.
Black Monday
The 1987 stock market crash, known as "Black Monday," was the worst one-day crash in U.S. stock market history, as the Dow Jones industrial average lost 22.6% of its value.
Yet, according to Yardeni Research, October averaged a 0.6% price gain from 1928 to 2022. After the '87 crash, U.S. economic growth stood its ground, and the growth of gross domestic product didn't go negative.
The most tangible, mechanical, lesson from 1987 is the creation of a concept called volatility skew.
After the '87 stock market crash, investors noticed something important: Options were priced differently based on the likelihood of big price swings.
This difference in prices for options gave them valuable information about the market's expectations for future ups and downs. It helped them foresee potential risks and prepare better.
Understanding this price difference (volatility skew) became critical. It enabled investors to make smarter choices and manage risk more effectively. It's like having a warning system that helps to anticipate and mitigate the impact of sudden market drops, making crashes less severe or preventing them altogether.
A first-hand account
tastylive's most-watched documentary, with more than 1.8M views on YouTube, follows real stories from options traders in the CBOE pits. Documented experiences from traders like Tom Sosnoff, Tony Battista and JJ Kinahan give everyday traders an idea of what trading during a crisis is like, and how to best handle it.
Be sure to watch the full documentary on the 1987 crash (linked above) to understand a trader's perspective in crisis.
Will 2023 be another 1987?
It's difficult to predict accurately, but this year's S&P 500 displays some similarities to conditions in 1987.
Back then, the market had kicked off the year strongly, a sell-off occurred in Q3 because of weak stock breadth, interest rates were rising, rate-sensitive sectors were underperforming and the dollar was strong.
This time, the economy also faces the United Auto Workers strike, the possibility of a U.S. government shutdown,and the return of student loan interest payments. Plus, interest rates are currently high at 5.25%-5.50%.
With fear of another crash looming, it's good to take stock of your portfolio, and maybe hold off on any big moves.
Kendall Polidori is an associate editor and music writer at Luckbox magazine.
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