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1987 Stock Market Crash – 30 Years On

By David Andrew

David Andrew

From time to time, share markets deliver a shock that few investors expect or know how to cope with. Most recently it was the global financial crisis, before that the tech wreck in 2000, and 30 years ago the ’87 stock market crash.

What made 1987 so memorable for me was that it was the year I started work in the financial services industry. No sooner had I begun as a graduate trainee and the financial markets were turned upside down. First it was Alan Bond in trouble, then Laurie Connell, Robert Holmes a Court, Christopher Skase and on, and on, as high-profile entrepreneurs one after the other struggled to fend off corporate collapse.

The ’87 Crash or Black Monday as it became known, began in Hong Kong spreading to Europe and the US where the Dow Jones dropped over 22% in one day.  By the time Black Tuesday arrived in Australia the All Ordinaries also fell 22 per cent, a plunge of 508 points. The aftermath was brutal, mainly because there was so much borrowed money being used to invest in pretty awful speculative stocks.  Rule one of margin lending: when an investment you hold reduces to a fraction of what you purchased it for, the loan is still there and will need to be repaid.

Way back then, an investor entering the market at the peak of valuations, took about 8 years to recover their position. And yet the graph below tells an interesting story.  Even though the stock market crash was dramatic and very, very serous at the time, patient investors recovered and have been handsomely rewarded since.

Fast forward to October 2017.  As global markets continue to rise strongly after nine years, it’s understandable that the month of October is causing talk of a correction, after all, the 1929 market crash began in October too.  Much of the commentary is from those selling news columns but its there all the same.  As the last day of October passes, it seems we have dodged the October curse this time around. For a crash course on how financial markets work check out this video series.

The thing with financial markets is that they are a massive information processing machine taking every known piece of information about the global economy, the local economy, interest rates, trade imbalances, company information… and so on, and armed with that information willing buyers and willing sellers decide what is a fair price to exchange stocks.  Markets only react to new information, so it is important to remember that at any point in time, share prices reflect all information currently known to market participants.

It is always true that there are periods where with the benefit of hindsight, prices were too high, bid up by over confidence or in many cases excess liquidity.  There’s also periods where, with the benefit of hindsight the markets were undervalued. Either way, its hard to know.

The question on the minds of many is – are we in one of these over valued market periods now? Well perhaps, but maybe not.  The problem with answering this question is that market timing is very, very difficult to predict.  Numerous academic studies have considered in depth the effectiveness of market timing strategies after the fact, and sadly there’s no fail-safe method to time the markets in advance of an event.

That said, there are some rational strategies you can implement to protect you from a severe market downturn.

  1. Don’t invest more in shares than you really need to.  Only invest in shares the proportion of your assets needed to achieve your financial goals.  A portfolio with the right mix of shares and defensive assets, will give you the resources you’ll need withstand any market downturn.
  2. Don’t buy crappy stocks.  If you own  a portfolio of speculative stocks and the market turns, look out.  If on the other hand you have a diversified portfolio of quality shares then the likelihood of full recovery of your asset values is greatly increased.
  3. Re-balance your portfolio.  As your share portfolio increases in value, take profits along the way. Where your portfolio should be 60% in  shares and it is out of balance due to the growth in the portfolio, sell down in order to manage you risk.

As we look back on the last 30 years since the ’87 stock crash, we’ve had good times and bad, yet the long term return from Australian shares between 1 January 1980 and 30 September 2017 has been 11.19% per annum, while the worst single year was -40.45%.  Global shares for the same period returned 10.65% per annum, while the worst year was -33.38%.

This video goes back to 1926 and shows the US market against Time Magazines news headlines. It tells the story that there’s always some bad news around the corner, and yet over time, the markets work well in terms of delivering the returns we need to fund our long term plans.

David Andrew is Founder and CEO of Capital Partners.  He is a financial planner in Perth, Western Australia, working with in the areas of family wealth, business succession and estate planning.

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