Today marks the 20th anniversary of Black Monday when the Dow Jones Industrial Average plummeted more than 500 points, about 22%, causing massive panic in the markets. The event has double meaning to the futures industry because not only did it affect traders involved in the relatively new S&P 500 index futures market but there was an attempt to scapegoat those markets after the crash and if it weren’t for the cool and knowledgeable head of former Fed Chairman Alan Greenspan, those attempts may have succeeded.
It is a lesson that should be learned, because despite what we know about market cycles and bubbles, with every major market downturn — despite signs and warnings — there are those who prefer to find a scapegoat, whether it is derivatives, hedge funds or some other boogey man.
There have been many retrospectives on the crash and the question always falls to can it happen again? Our knowledge of markets and cycles provides an easy answer: yes, it is the nature of markets. Of course the more pressing question is: will it happen today or in the near future?
A panel of experts at a Chicago Board Options Exchange (CBOE) last week noted several similarities in today’s equity markets as 20 years ago. The trade deficit was high, the U.S. dollar was plummeting and volatility was increasing.
Another similarity not noted is that we were in the seventh year of a Republican administration marked by an increase in deficit spending.
A major difference noted in a news conference sponsored by Zero Alpha Group (ZAG)on the crash is that measures have been implemented to stop trading if certain triggers are hit. “Now there are trading restrictions in place to prevent computer analytics from driving the price down automatically,” ZAG noted in a release.
A lot of blame was placed on computer generated index arbitrage trading signals and while the “cascading effect” has been noted it does not address the underlying weakness that caused it. The market opened lower the following day — which makes computer programs a somewhat dubious cause — and several markets were closed. Trading at the New York Stock Exchange was halted, the CBOE halted trading at 11:45 (CST) and the Chicago Mercantile Exchange halted trading in the S&Ps about a half-hour after that.
Analysts at the CBOE event agreed that the following Tuesday was scarier as the uncertainty caused markets to close. Once there was an announcement of major corporate buybacks, equities were able to turn and the Dow ended the day up 100 points.
Markethistory.com analysts Ryan Soudan and Mickey Schoenhals pointed out this morning in a market update that the obscure Hindenburg Omen, a signal of an impending market crash, was triggered, though unconfirmed, earlier this week and of course there are the historical similarities of bad things happening in the month of October and in years ending in ‘7’.
We at Futures do not want to cause a panic, but we also have to note that massive selling does not necessarily equate to a panic. We think if an instrument is overpriced bet it corn, silver, bonds or a stock index it is proper to sell it and either take a profit or profit when you exit that market at a better price. Covering futures we have never maintained a bias against selling. There are so called experts that have never given a sell recommendation in their lives and would blame speculators or a ‘panic’ when their advice proves wrong. For many, Alan Greenspan not withstanding, irrationality is something that only happens on the downside. Many analysts who had predicted the correction going into 2000 had pointed out that there was no panic but an orderly sell-off of over-priced securities. And it is Greenspan himself who warned of “irrational exuberance” in the mid to late 1990s. That is when those analysts were declaring a new paradigm and the potential of the Dow moving to 35,000.
Well, the market has rebounded impressively since 2003 and some would argue that it is once again over its skis. The subprime crisis caused turmoil in the markets until the Fed came to the rescue. While much of the financial world lauded Fed Chairman Ben Bernanke for the move others likened it to patting a kid on the head and saying that is okay after he wrecked your car.
John Riley, chief market strategist for Cornerstone Investment Services, argued that Fed was awarding bad behavior. “It is the Fed manipulating markets and eliminating what makes markets work right in the first place, properly priced risk. If you know that the Fed will always come along to bail you out, what difference does risk make? What risk is there in a market that is not allowed to have declines, to eliminate excesses?”
Riley goes on to note that the Fed moves could eventually backfire. “Natural economic cycles are bigger than anything the Fed can do and natural cycles always win. A cycle delayed only gets bigger and more dangerous.”
That is not to say there is some impending doom on the market, but continue to watch your fundamentals and technicals and be skeptical of anyone trying to promote a new paradigm where markets only go one way.
