Black Monday (1987)

Black Monday (1987) refers to the global stock market crash that occurred on October 19, 1987. On this single, terrifying day, global markets went into a freefall, with the Dow Jones Industrial Average (DJIA) plummeting an astonishing 22.6%—the largest one-day percentage loss in its history. To put that in perspective, it was nearly double the drop of the infamous crash of 1929. The crash was not confined to the United States; markets from Hong Kong to London were ravaged, demonstrating the interconnectedness of the modern global financial system. Unlike many other market crises, there was no single, obvious piece of bad news that triggered the event. Instead, a cocktail of factors, including new and poorly understood trading strategies, market overvaluation, and international economic tensions, created a perfect storm that unleashed a tidal wave of panic selling. For investors, Black Monday remains a stark and powerful lesson in market psychology, the dangers of complexity, and the timeless wisdom of value investing principles.

Historians and economists still debate the precise cause of Black Monday, but most agree it was a confluence of several key factors that turned a market correction into a full-blown meltdown.

A major culprit was the rise of automated, computer-driven trading strategies, particularly a technique known as Portfolio Insurance. This strategy was designed to protect large institutional portfolios from market downturns. In theory, it worked by having computers automatically sell stock index futures in a declining market to hedge against further losses. However, on October 19th, a fatal flaw was exposed. As the market began to fall, thousands of these programs triggered “sell” orders simultaneously. This flood of automated selling pushed prices down further, which in turn triggered even more automated selling. This created a vicious, self-reinforcing downward spiral that overwhelmed the market's ability to function. The very tool designed to provide insurance became an accelerant for the fire.

The crash didn't happen in a vacuum. By the fall of 1987, the US stock market had been on a five-year bull run, and many believed it was dangerously overvalued. The S&P 500 had soared over 40% in that year alone. This high valuation level meant the market was fragile and susceptible to a shock. Adding to the anxiety were international pressures. The U.S. was running a large trade deficit, and a public dispute between the U.S. and West Germany over interest rates had spooked currency markets, leading to fears of inflation and a declining dollar. While not direct triggers, these worries created a tense backdrop of uncertainty, priming investors for panic.

The wave of selling began in Asian markets, which were already tumbling before Wall Street even opened. The panic spread to London and then hit the New York Stock Exchange (NYSE) at the opening bell. The volume of sell orders was so immense that the exchange's computer systems and specialists were completely overwhelmed. Tickers ran hours late, and investors were flying blind, unable to get accurate price information. This information vacuum only fueled the fear, as investors dumped stocks at any price just to get out. The day after the crash, the Federal Reserve (Fed), led by Chairman Alan Greenspan, stepped in, issuing a one-sentence statement promising to provide liquidity to support the economic and financial system. This crucial action helped restore confidence and prevented a deeper financial crisis.

For the individual investor, Black Monday offers timeless lessons that are just as relevant today.

The crash was a textbook example of Benjamin Graham's famous parable of Mr. Market. Mr. Market is your hypothetical business partner who shows up every day offering to buy your shares or sell you his. Some days he is euphoric and offers ridiculously high prices; on other days, he is panicked and offers to sell his shares for pennies on the dollar. On Black Monday, Mr. Market was in a state of sheer, unadulterated terror. He wasn't selling because the fundamental value of businesses had changed overnight; he was selling out of pure fear. The wise investor learns to ignore Mr. Market's manic moods and instead uses his panicky offers to buy great businesses at a discount.

This leads to the most important lesson: price is what you pay, value is what you get. On October 19, 1987, the prices of stocks collapsed, but the underlying intrinsic value of the businesses they represented did not. The Coca-Cola Company was just as valuable a business on Tuesday as it had been on the previous Friday, yet its stock price was dramatically lower. The crash created a spectacular, if short-lived, buying opportunity for disciplined investors who understood this distinction. The market eventually realized its mistake and recovered its losses within two years.

Black Monday is a powerful warning against herd behavior and the allure of complex, “can't-lose” strategies. Portfolio insurance was sold as a sophisticated, modern way to manage risk. In reality, it created systemic risk that no one fully appreciated until it was too late. For the individual investor, the lesson is clear: stick to what you understand. Avoid financial products and strategies that are too complex to explain simply, and never, ever make an investment decision simply because “everyone else is doing it.”

Finally, the crash underscores the supreme importance of a Margin of Safety. This principle, championed by Benjamin Graham, means always buying a security for significantly less than you believe its intrinsic value is worth. This discount provides a cushion against errors in judgment, bad luck, or the wild emotional swings of the market. An investor who had purchased stocks with a wide margin of safety before the crash would have suffered less and been in a better psychological and financial position to take advantage of the fire-sale prices that followed. A margin of safety is the ultimate defense against a world that is, and always will be, unpredictable.