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How Confident Are 1987 Comparisons?


Don't watch for signs of a crash. Watch for signs of excess.


Last week I received two separate inquiries for my perspective comparing today's market environment to 20 years ago when Black Monday occurred.

One inquiry was from a high-profile web site that caters to savvy investors and professional traders (ring any bells?). The other inquiry was from my mother. I declined the first, as she was probably more interested in knowing what conditions would cause the same thing to happen. The second inquiry wanted to know whether it could happen again at all. A lack of time prevented me from answering the first (my mother, however, is more persistent). But in both cases my answer focuses on the excesses that made a crash inevitable.

While regulatory agencies have taken steps to make another crash more difficult, nothing has been done to prevent forming the bubbles that can resolve in only one way. I don't have a problem with that. In fact, my preference would be to remove the "safeguards" against a crash. Capitalism always finds a way to emerge from the wreckage, and the protections only slow that process and pervert the outcome. Both bubbles and crashes are necessary parts of the economic cycle, helping to weed out the aggressive or less smart management.

Anyway, that's not even the comparison I find most relevant. That can't yet be made, as it is a comparison between media coverage after Black Monday, to media coverage on its anniversary. No matter how reflective the respondents try to be, their recollection is often an expression of their market expectations.

It is interesting to know what has changed about the system, but that won't change one bit whether the markets will find a way to reflect investor sentiment at any given moment. More interesting to me - for my selfish motive of wanting to be on the market's right side at any given moment - is to know how confident are market participants that the market is immune from a repeat of 1987.

Who could blame whomever has that confidence? After all, indexes currently sit at record highs, despite several weeks littered with sessions declining several hundred points each, just several months ago. And who would be surprised if relatively few market participants shared that confidence? This is just the proverbial "wall of worry" that all rallies climb.

I suspect that the "wall of worry" won't be underlied as many comments as it would have several weeks ago, before this rally's latest upleg. Most comparison quotes we read this week were made prior to Thursday and Friday's pattern (the big rejection of new intraday highs, and the 61.8% retracement after Friday's cash session close)*. I will be interested to see how complacent or bullish those quotes seem to be. The more complacency and bullishness there was before last week's drop, the bigger the bubble that last week's drop popped.

(*Editor's Note: This article was written on Monday, October 15)

For further reading about the 1987 crash, please see the following: Black Monday: What Happened?, Why Did the Crash of '87 Occur?, and What Happened in 1987, Could It Happen Again?

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