1987 Stock Market Crash

The 1987 Stock Market Crash (also known as 'Black Monday') was a sudden, severe, and largely unexpected global stock market crash that occurred on October 19, 1987. On this single day, the 'Dow Jones Industrial Average (DJIA)' plummeted an astonishing 508 points, or 22.6%, the largest one-day percentage drop in the index's history. The crash was not confined to the United States; markets around the world, from Hong Kong to London, experienced similar dramatic declines. Unlike many other market crashes, Black Monday was not immediately followed by a long-term economic recession. This disconnect between the frantic mood of the market and the underlying health of businesses offers a powerful lesson for investors, particularly those who follow the principles of 'value investing'. The event exposed the dangers of herd mentality and the unforeseen consequences of new financial technologies, forever changing the landscape of market regulation and investor psychology.

While no single factor was solely to blame, Black Monday resulted from a toxic cocktail of new technology, international tensions, and old-fashioned human panic.

A major culprit was the widespread use of automated, computer-driven trading strategies, known collectively as 'program trading'. A specific strategy called 'portfolio insurance' was particularly destructive. The concept was simple: as the market fell, computers would automatically sell stock index futures to hedge, or “insure,” a portfolio against further losses. However, on October 19th, as the market began to slide, these programs kicked in simultaneously, unleashing a tidal wave of automated sell orders. This massive, coordinated selling overwhelmed the market, pushing prices down even further, which in turn triggered more automated selling. It created a catastrophic feedback loop that spiraled out of control, a digital waterfall with no off-switch. The very tools designed to protect portfolios ended up accelerating their destruction.

The machines didn't operate in a vacuum. By late 1987, investors were already on edge. A weakening US dollar, growing trade deficits, and the threat of rising interest rates had created a tense market environment. When the initial, computer-driven selling began, it ignited a firestorm of human fear. Investors, seeing the market plummet on their screens, rushed for the exits all at once. The panic became contagious. Buyers simply vanished, leaving a massive void that the sellers fell into. It was a classic market panic, but one supercharged by technology that moved faster than human reason.

The crash sent shockwaves through the financial world, but its long-term impact was perhaps different than what many expected at the time.

Surprisingly, no. While the market crash was terrifying, it did not trigger a deep recession or depression. The US Federal Reserve, led by Alan Greenspan, acted decisively, affirming its readiness to provide liquidity to support the economic and financial system. Businesses, for the most part, kept operating, innovating, and generating profits. This was a critical lesson: the stock market is not the economy. A company's stock price can be wildly volatile, but the underlying value of its operations is often far more stable.

To prevent a repeat of the 1987 freefall, regulators implemented market-wide 'circuit breakers'. These are essentially mandatory trading halts that are automatically triggered when a major index falls by a certain percentage in a single day. The goal is to give the market a “time-out,” forcing a pause to slow down panic, allow investors to process information, and prevent the kind of automated feedback loop that defined Black Monday.

For a 'value investor', Black Monday is the ultimate case study in market irrationality and opportunity. It was a perfect real-world demonstration of 'Benjamin Graham's' famous allegory of 'Mr. Market'. Imagine Mr. Market is your emotional business partner. On most days, he offers to buy your shares or sell you his at a reasonable price. But on October 19, 1987, he ran into your office, hair on fire, screaming that the world was ending and that he would sell you his stake in your wonderful, profitable business for a fraction of what it was worth. A panicky, uninformed investor would scream along with him. But a rational investor, as 'Warren Buffett' famously advises, would “be greedy when others are fearful.” They would calmly recognize Mr. Market's temporary insanity as a spectacular buying opportunity. The key lessons for the ordinary investor are timeless:

• Don't Panic. Emotional decisions are almost always poor financial decisions. A crash feels like a disaster, but for the prepared, it's a sale.
• Know What You Own. If you own a share of a great business, a 20% drop in its stock price doesn't make the business 20% worse. It just makes the stock 20% cheaper.
• Price is What You Pay, Value is What You Get. Black Monday was a day of terrible prices but incredible value for those who had done their homework.
• Always Maintain a 'Margin of Safety'. Buying a company for significantly less than your estimate of its intrinsic value is the ultimate protection against the market's violent mood swings. It’s the shock absorber that lets you sleep well at night, even on a Black Monday.