What is "Black Monday"?

"Black Monday" was a sudden and comprehensive stock market crash on October 19, 1987. The Dow Jones Industrial Average (DJIA), which measures the performance of U.S. stock markets, plunged 22%. In the week before this plunge, the stock market also experienced two major declines.

The Dow Jones Industry Average fell on "Black Monday" Performance before and after.

"Black Monday" is regarded by the public as the beginning of the global stock market decline. To this day, this day remains a nightmare for the stock market.

The crash triggered a sell-off that resulted in a surge in trading volume on the exchange. However, the computers at that time were overwhelmed and unable to bear the sudden high load. Many orders were put on hold for hours, unable to be completed. A large amount of money is stagnant and cannot be transferred.

After such a serious crash, the futures and options markets were naturally not immune and fell sharply. The collapse had a huge impact on global markets. At the end of the month, most major global indexes fell by 20% to 30%.

"Black Monday" usually refers to the stock market crash in 1987, and now it has become synonymous with the stock market crash.

Causes of market collapse

Stock market crashes are usually the result of a combination of factors. Interestingly, before Black Monday in 1987, no major news happened in the world. However, under the combined effect of many factors, an atmosphere of panic and uncertainty has enveloped the market. What are the factors?

The first is the introduction of computerized trading systems. Today, most trading activity occurs through computers, but this was not the case before. Before the 1980s, the stock exchange hall was crowded and noisy, where traders directly completed asset exchanges.

New York Securities before the introduction of computerized trading systems in 1963 Exchange (NYSE) trading floor. Source: Library of Congress. Slightly modified original image.

In the 1980s, trading activities increasingly relied on computer software. The transformation to computerization has significantly accelerated the speed of trading activities, with systems capable of completing thousands of transactions in just seconds. These improvements also have a side effect, with prices fluctuating significantly over a short period of time. Today, trading bots can move trillions of dollars within seconds of breaking news.

Other influencing factors include the U.S. trade deficit, international tensions and other political environment factors. On top of that, the media has been fueling the fire. The ever-expanding audience reach of reports has undoubtedly amplified the impact and severity of these incidents.

It is worth noting that these factors are only external factors that trigger the crash, and the decision-maker is still the trader himself. In other words, market psychology can largely lead to large-scale sell-offs, which are usually caused by public panic.

What is the circuit breaker mechanism?

After the "Black Monday" incident, the U.S. Securities and Exchange Commission (SEC) launched a variety of mechanisms to prevent similar incidents from happening again. If not eradicated, at least the effects can be mitigated.

One of the methods is called circuit breaker. This control measure stipulates that if the drop reaches a certain percentage of the opening price of the day, trading will be stopped. In addition to the United States, this mechanism is widely used in other markets.

The circuit breaker mechanism applies to mainstream indexes such as the Dow and S&P 500, as well as many securities. The specific mechanism is as follows.

If the S&P index falls by more than 7% in a single trading day, trading will be suspended for 15 minutes and then restarted. This process is called the "first-level circuit breaker mechanism." If the decline continues and reaches 13%, market trading will be suspended again. This suspension is called the "secondary circuit breaker mechanism." After a 15-minute break, trading restarted for the second time. If the market is still falling and reaches 20%, trading will be suspended directly for the day and the "three-level circuit breaker mechanism" will be activated.

The advantages and disadvantages of the circuit breaker mechanism

The circuit breaker mechanism may be an effective containment The stock market plummeted, but controversy persisted.

Some opponents believe that the circuit breaker mechanism is counterproductive and is actually amplifying the severity of the plunge. Why? These established decline indicators are based on the openness of the market and are widely known to the public. They may affect market liquidity and lead to a significant reduction in orders at some price points.

Lower liquidity could trigger greater volatility as there are not enough orders to absorb an unexpected surge in supply. Opponents believe that without the intervention of the circuit breaker mechanism, the market is expected to return to its natural state.

In global market indexes such as the S&P 500, only a market decline will trigger the circuit breaker mechanism. Of course, some securities may also trigger circuit breakers due to price surges.

How to deal with market collapse

The natural nature of the market and mass psychology determines that market collapse is almost inevitable. How should we respond to a market crash?

First, develop an investment plan or overall trading strategy. After a market crash, most investors will panic sell. At this time, you should stay calm, analyze rationally, and avoid making emotional decisions. A long-term investment plan or trading strategy is the antidote to impulsive decisions.

Secondly, set a stop loss line. Wise traders must reserve some downside for short-term trading. However, long-term investors rarely do this. Regardless, you should leave a buffer for price fluctuations to avoid huge losses in the event of a severe market crash.

Any global market crash must come to an end, and while the recession may last a few years, there will eventually be a recovery. Looking back, the global economy has been growing for many centuries and short-term adjustments were only temporary setbacks.

Performance of the Dow Jones Industrial Average from 1915 to 2020 .

This concept is in line with the global market where the economy continues to develop, but it may not be applicable to the cryptocurrency market. The blockchain industry is in the ascendant, and cryptocurrency is a risky investment. Some cryptocurrency assets may be too damaged to recover after a market crash.

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Other famous “Black Monday”

October 28, 1929 Japan

The stock market crash before the "Great Depression" in the 1930s. The crash in the fall of 1929, which plunged the economy into a long-term slump, was by far the greatest disaster.

September 29, 2008

After the U.S. real estate bubble burst, the stock market began to plummet. This ultimately triggered the "Great Recession" that lasted from the late 2000s to the 2010s. For details, please read "A Brief Discussion on the 2008 Financial Crisis".

March 9, 2020

Aggravated by the COVID-19 epidemic and the oil price war, the U.S. stock market has experienced its worst day since the "Great Depression." The single-day decline hit a new high since 2008. However, as you'll see in the next paragraph, that record decline only stood for a week.

March 16, 2020

Concerns about the significant impact of the new coronavirus epidemic on the economy have enveloped the market. After continuous fermentation, the single-day decline in the U.S. stock market even exceeded the decline during the previous week's stock market crash. The public viewed the day as the culmination of the coronavirus' initial impact on financial markets.

Summary

"Black Monday" originally referred to the 1987 stock market crash. Today, this word has become synonymous with stock market crashes. The plunges in 1929, 2008, and 2020 are all unforgettable "Black Mondays."

After the "Black Monday" incident, many new regulations were introduced in the market in an effort to reduce the impact of the flash plunge in the stock market. The most influential and controversial one is the "circuit breaker mechanism" - when the decline reaches a predetermined value, the circuit breaker mechanism is activated and trading comes to a standstill.

How can we prepare for the inevitable market crash? You may wish to develop reasonable investment plans and trading strategies based on possible scenarios. A combination of risk management, portfolio diversification, and market psychology can help you avoid huge losses when the market crashes.