A stock market crash is a rapid and often unanticipated drop in stock prices. Such a crash can result from various factors, including a major catastrophic event, economic crisis, or the collapse of a long-term speculative bubble. Public panic significantly contributes to the severity of crashes through panic selling, further depressing prices.
Famous Stock Market Crashes
Historical crashes like the 1929 Great Depression, the 1987 Black Monday, the 2001 dotcom bubble burst, the 2008 financial crisis, and the 2020 COVID-19 pandemic have left indelible marks on the economy.
Key Takeaways
- A stock market crash is an abrupt drop in stock prices, potentially triggering a prolonged bear market or foretelling economic hardships.
- Fear and herd behavior among investors worsen market crashes via panic selling.
- Measures like circuit breakers and trading curbs are in place to mitigate the impact of sudden market crashes.
Grasping the Impact of Stock Market Crashes
While there’s no fixed threshold for what constitutes a crash, these events are generally characterized by a sudden double-digit drop in a stock index over a few days. A stock market crash can profoundly impact the economy, leading to significant losses for investors who sell shares post-drop or who buy stocks on margin prior to a crash.
Renowned U.S. market crashes include the 1929 market collapse leading to the Great Depression and the panic-driven Black Monday of 1987.
The 2008 crash, mainly rooted in the housing and real estate market, led to the Great Recession. The 2010 flash crash, further, showcased the volatility introduced by high-frequency trading, shaving off trillions in stock values almost instantly.
In March 2020, global markets plummeted into bear territory prompted by the COVID-19 pandemic’s emergence.
Image: Market fluctuations in the modern economy
Preventing a Stock Market Crash
Circuit Breakers
Post the 1929 and 1987 crashes, circuit breakers have been established as safeguards to temper market panics. These mechanisms prevent trading over certain periods following sharp declines in stock prices to stabilize the market.
The New York Stock Exchange (NYSE) exemplifies this with specific thresholds tied to declines in the S&P 500 Index, inducing trading halts at 7% (Level 1), 13% (Level 2), and 20% (Level 3). Level 1 and Level 2 halts can pause trading for 15 minutes within specified timeframes, while Level 3 halts shut down trading for the remainder of the day.
Market crashes primarily hurt those relying on investment returns for retirement, and often precede economic downturns like recessions or depressions.
Plunge Protection
Market stability can also be reached through substantial stock purchases by large entities, serving as morale boosters and curbing panic selling. During the 1907 Panic, financier J.P. Morgan orchestrated New York bankers to inject capital to save the market. Yet, methods like these remain sporadic and not always efficacious.
Related Terms: speculative bubble, bear market, trading curbs, circuit breakers.
References
- New York Stock Exchange. “U.S. Equity Market Resiliency During Times of Extreme Volatility”.
- Constitutional Rights Foundation. “J.P. Morgan, the Panic of 1907, & the Federal Reserve Act”.
