The Crash of '29
"Market crash" - just the sound of the phrase makes most people shudder. But what exactly is a crash, and why do they occur? The answer lies within human psychology. People love bull markets*. Bull markets have the uncanny ability to change the collective attitude of society. In a quickly rising market, even the words of rather prosaic business pundits become a form of entertainment. This is what happened in the tech boom as Fed Chairman, Alan Greenspan, became a worshipped celebrity. Eventually the euphoria changes into downright pessimism as the inevitable market crash occurs. One of these examples is the crash of 1929.
October 29, 1929, is known as Black Tuesday, brought the roaring twenties to an end, created depression and changed the American economy forever
This is the most famous crash in U.S. history. There are not many that remember this crash anymore, but I am sure there are still some people who remember the depression that followed after. One of my relatives grandfather worked on Wall Street from the 20's through the 60's and had quite a few stories about the crash. My mother told me that the wealthy high rollers on Wall Street who came into my relative grandfather's brokerage a few months after the crash. He was selling apples out of a box for a nickel. He was one of those that ended up jumping out of a building.
The 1929 crash was spectacular by any measure. It followed a spectacular bull market that had been going on for the better part of a decade. The Dow Industrials hit a high of 386 in September, 1929. It did not get back to that level until November, 1954. At its worst level, the Dow dropped to 40.56 in July, 1932. That is a drop of 89%.
The "Roaring Twenties"
The 1920's were a time of peace and great prosperity. After World War I, the "Roaring Twenties" was fueled by increased industrialization and new technologies, such as the radio and the automobile. Air flight was also becoming widespread, as well. The economy benefited greatly from the new life changing technologies
"We in America today are nearer to the final triumph over poverty than ever before in the history of any land. The poorhouse is vanishing from among us" Herbert Hoover (1874-1964)
As the Dow Jones Industrial Average soared, many investors quickly snapped up shares. Stocks were seen as extremely safe by most economists, due to the powerful economic boom. Investors soon purchased stock on margin. Margin is the borrowing of stock for the purpose of getting more leverage. For every dollar invested, a margin user would borrow 9 dollars worth of stock. Because of this leverage, if a stock went up 1%, the investor would make 10%! This also works the other way around, exaggerating even minor losses. If a stock drops too much, a margin holder could lose all of their money AND owe their broker money as well.
From 1921 to 1929, the Dow Jones rocketed from 60 to 400! Millionaires were created instantly. Soon stock market trading became America's favorite pastime as investors jockeyed to make a quick killing. Investors mortgaged their homes, and foolishly invested their life savings in hot stocks, such as Ford and RCA. To the average investor, stocks were a sure thing. Few people actually studied the fundamentals of the companies they invested in. Thousands of fraudulent companies were formed to hoodwink unsavvy investors. Most investors never even thought a crash was possible. To them, the stock market "always went up".
The new Psychology of consumption
- In a variety of ways, Americans wanted to get rich, and to do so with little effort. Thorstein Veblen, an economist, published The Theory of the Leisure Class in 1898. The book reached a wide American audience during the 1920s because it spoke directly to the psychology of American consumption. Veblen, in fact, introduced the now-familiar term "conspicuous consumption," which seemed to embody Radio The first commercial radio station went on the air in the 1920s in Pittsburgh, while the first public radio station opened on the campus of the University of Wisconsin. By 1922, 3 million American households had radios, and purchases of receivers had increased by 2,500%, giving the industry annual sales of $850 million by 1929.
- Motion pictures
- New electric appliances
- A floodtide of new electric appliances lightened the load of the middle-class American housewife: vacuum cleaners, toasters, washing machines, refrigerators. Women became America's greatest consumers, purchasing appliances and other items that would have been considered a luxury just a generation before.
- Automobile industry
A fledgling industry before World War I, motion picture production became one of the ten largest industries in the United States during the 1920s. In 1922, theaters sold 40 million tickets a week. By 1929, that number had grown to 100 million a week. One of the capitalists who cashed in on Hollywood was Joseph P. Kennedy, patriarch of the Kennedy's, one of the nation's most influential political families. During eight months in Hollywood, he made $6 million.
Black Thursday, the Crash of '29
One day everything collapsed, Despite the efforts of brokers the following day (when this photo was taken) shares continued to decline, a trend dramatized by the newspapers in their weekend editions.
This graph isn't here to scare you or make you avoid the stock market. The stock market is the place to be invested for the long run. Over long periods of time the stock market has had far greater returns than any other investment class.
The crash led to untold bankruptcies and business closures, causing many Americans to lose their jobs. Although the United States had experienced several depressions before the stock market crash on October 27, 1929, none had been as severe nor as long lasting before "Black Thursday" struck Wall Street. At first, economists and leaders thought this was a mild bump, perhaps merely a correction of the market, or in any case, no worse than the recession the nation suffered after World War I.
Numbers soon proved the optimists incorrect. The depression steadily worsened. By spring of 1933, when FDR took the oath of office, unemployment had risen from 8 to 15 million (roughly 1/3 of the non-farmer workforce) and the gross national product had decreased from $103.8 billion to $55.7 billion. Forty percent of the farms in Mississippi were on the auction block. The poor were hit the hardest. By 1932, Harlem had an unemployment rate of 50 percent and property owned or managed by blacks fell from 30 percent to 5 percent in 1935. Farmers in the Midwest were doubly hit by economic downturns and the Dust Bowl. Schools, with budgets shrinking, shortened both the school day and the school year.
The breadth and depth of the crisis made it the Great Depression.
The suicide rates increased from 14 to 17 per 100,000. Protest that did occur was local, not national: "farm holidays," neighbors of foreclosed farmers refusing to bid on farms at auction, neighbors moving evicted tenants' furniture back in, and local hunger marches
So the essence of this study is the following... If you are invested or considering investing in the stock market you need to be prepared for bear markets. They will happen. It has been proven in 1929, 1998 and 2008. They will reduce the value of your holdings substantially. If you are a dedicated buy and hold investor, you must consider these bear markets. Will your steadfast resolve hold in the face of a 30% decline? How about a larger decline? If not, then you need to reconsider the buy and hold philosophy. However, when is the next stock market crash? The person who knows this answer can become very wealthy, indeed.
Financial Term Glossary:
- Bull Market: is a financial market condition when prices of an instrument, such as stocks, are trending higher. The bull market tends to be associated with economic growth and expectations of further capital gains.
- Bear Market: A market condition in which the prices in a financial market are falling or are expected to fall.
A bear market is the opposite of a bull market.
The failure to promptly pay interest or principal when due. Bond holders and other lenders face default risk. Basically, this is the risk you are not going to get paid.
A severe and prolonged recession characterized by low economic productivity, high unemployment, and deflating price levels.
McElvaine, Robert S. The Great Depression: America, 1929-1941. New York: Times Books, 1993, passim.