Bayesian Investor Blog

Many people seem to be reacting to the recent stock market crash the way they wish they had to the 1987 crash, and a smaller number are comparing it to 1929.
The unusual resemblance to the crash of 1937 makes me expect something in between those two scenarios.

• The 1937 crash was caused in part by a sudden increase in caution by banks after the Fed significantly increased their reserve requirement. Banks played no interesting role in the 1929 or 1987 crashes.
• The 1929 and 1987 crashes followed stock market peaks in August, versus March and the prior October for the 1937 and 2008 crashes.
• The 1937 and 2008 crashes both came eight years after one of history’s largest stock market bubbles.
• The 1929 and 1987 crashes followed an increase in the discount rate to 6 percent. The 1937 and 2008 crashes followed decreases in the discount rate to 1 and 2.25 percent.

All four crashes happened mainly in October and their behavior in that month provides little reason for distinguishing them.
If the 1937 crash is a good model for what to expect in our near future, many investors who are currently following the lesson they learned from the 1987 crash will discover in early 2009 that the unexpectedly severe recession casts doubt on the belief that crashes create good buying opportunities. How many of them will stick to their buy and hold commitment then (when I expect it will be a good idea)?
When the extent of the recession becomes disturbing, remember Brad DeLong’s perspective:

Is 2008 Our 1929? No. It is not. The most important reason it is not is that Bernanke and Paulson are both focused like laser beams on not making the same mistakes as were made in 1929….
They want to make their own, original, mistakes..

(HT James Hamilton).