Black Monday 1987 and lessons learned
It’s amazing how predictable human nature can sometimes be and the majority of human beings get a huge sense of comfort from validation, i.e. if loads of other people are doing it then it must be OK! Last week marked the 30th anniversary of Black Monday in 1987 – one of my earliest memories from the world of investing & stock markets. On Monday 19th October 1987, stock markets around the world began to crash, shedding billions of the value of peoples’ pensions & investments. It began in Hong Kong that morning and quickly spread to the rest of Asia, then Europe and ultimately the U.S. as the time zones unfolded and traders woke up to screens of red flashing prices. The Dow Jones Industrial Average (DJIA) fell 22.1% that day which would be have been one of it’s worst years in history, let alone worse days! So, let’s look back at the year or so just before the crash in October 1987.
As was characteristic of most of the 20th century, the U.S. economy led the way for the other global economies to follow. In short, after a recessionary period in the early years of the 1980’s, the U.S. economy began to rapidly expand as the decade unfolded and the stock market is typically a leading indicator of future economic growth. The stock market advanced significantly, with the Dow Jones peaking in August 1987 at 2,722 points, or a staggering 44% over the previous year’s closing level. Confidence was extremely high and many stock market investors had begun to speculate using borrowed money, or leverage. A series of events are attributed with the eventual crash on Black Monday which probably included the collapse of OPEC in early 1986, which led to a crude oil price decrease of more than 50% by mid-1986. On Thursday, October 15, 1987, Iran hit the American-owned (and Liberian-flagged) supertanker, the Sungari, with a missile off Kuwait’s main oil port. The next morning, Iran hit another ship, the U.S.-flagged MV Sea Isle City, with another missile.
Whether it was any one of these specific incidents or it was just time for markets to have a major correction, nobody will ever know. However, when we look back it is simple to see the now familiar danger signs that were evident in hindsight. Firstly, leverage (borrowing to invest) is always a major problem when stock markets go down. Leverage does enhance the gains on the way up but increases the damage on the way down. 1987 & 2007 were very similar in this respect. The lesson here is never, ever borrow to invest in stocks. Secondly, overconfidence usually leads to investors not doing their homework before they invest. When markets are continually going up, many investors forget to read or simply ignore the negative headlines and thus, fail to see any warning signs on the horizon. Thirdly, just because your neighbour or pal tells you that a stock is a great investment doesn’t make it a solid investment case. Amateur stock tips are always to be avoided in my experience. Finally, if you cannot withstand a major market correction southward with the equity (shares) part of your investment portfolio (this includes within your pension), then this is a major clue that you are invested beyond your risk profile/capacity. Major stock markets have always recovered from the likes of Black Monday in 1987 but it can take up to 7 years which shows us that the stock markets are for long term investing. And don’t forget about all those investors who had the courage to purchase shares in the aftermath of 1987 & 2009. Continually investing in markets on an annual basis is never a bad strategy either, regardless of the prices at that point in time.