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Stock market crash - definition, causes & consequences including tips for shareholders
The stock market crash at a glance
definition: Sharp, sudden drop in price on the stock market
causes: Speculative bubbles, unexpected economic / political events, unknown causes
consequences: Deflation, generally depending on the type and extent of the stock market crash
Historical stock market crashes:
- 1637: The first stock market crash - the Dutch tulip crisis
- 1720: The South Seas Bubble and the Mississippi Company crash
- 1929: Black Friday ends the Roaring Twenties
- 2000: The dot-com bubble bursts
- 2008: The US real estate bubble bursts
Ever since there were stock exchanges - they developed in front of the house of the Belgian van der Beurse family from the 13th century - there has also been price turbulence. The trading and exchange of goods still took place at the first stock exchange in Bruges, Belgium. The first shares have been known from the Netherlands since around 1602. It was there that the first stock market crash in history happened.
Definition: what is a stock market crash?
A stock market crash leads to one sharp price slump on the stock market, which can last for a few days, but also for several weeks. The price loss leads to a high number of share sales, which generate an increased supply and in turn lead to falling prices.
For example, a stock market crash becomes triggered by the bursting of a speculative bubble. All investors then try to siphon their money from the shares at the same time, which also affects other areas that are not actually affected. A stock market crash is usually followed by a long phase of depression.
Causes: Why does a stock market crash?
The causes of a stock market crash are:
- mostly speculative bubbles, e.g. B. the dot-com bubble 2000
- unexpected economic / political events, e.g. B. the attack on the World Trade Center in New York
- rarely unknown, e.g. B. the Flash Crash 2010
Causes of a stock market crash: speculative bubble
A speculative bubble had already triggered the first stock market crash in history. In the 17th century it was all about tulip bulbs.
The pattern of formation of such a bubble has remained the same to this day. The Price of a commodity - then tulip bulbs, today, for example, real estate - no longer increases because of its value, but because of the expectations that investors have of it. This solves more and more speculation of people outwho are not interested in the goods, but interested in short-term profits. If the demand for a share increases, sales and thus prices also rise sharply.
It will be consequently Bought stocks in order to benefit from the steadily rising prices or because one has succumbed to a misjudgment. The securities will traded well above their intrinsic value. The bursting of a speculative bubble triggers a sharp drop in prices. The reason for this can be a chain reaction as more and more investors get out and cause prices to fall.
Causes of a stock market crash: How does a speculative bubble arise?
The The reasons for the formation of a speculative bubble have not been clearly clarified. The following causes are possible:
A speculative bubble may arise based on speculation and assumptions about how profit might be made. This behavior is comparable to a bet.
- Irrationality of the market participants
According to this theory, market participants do not always act 100% rationally. Difficulties with the application of theoretical price models then lead to incorrect valuations and thus to the creation of speculative bubbles.
- Attachment to social norms
Many investors do not yet have the necessary experience and are therefore guided by the behavior of others. In social science, this is known as the herd instinct. If investors do not rely on their own perception, but do the same as others who may be acting irrationally, this can have an impact on stock market prices.
- The Greater Fool Hypothesis
The term fool is English and means fool or fool. This hypothesis assumes that no matter what the price, there will always be a person who would invest even more money in a stock. As a result, in the expectation of achieving an even higher sum, a price is paid that has no relation to the respective value.
What are the consequences of a stock market crash?
Most people associate the word stock market crash with “hyper-inflation” or mean that “the money will no longer count tomorrow”. To understand the effects of a stock market crash, one must be clear about what money actually is - because many things are referred to today with the word "money" that does not represent any.
“Money” means exclusively the coins and banknotes issued by the National Bank. In contrast, credit balances in bank accounts are only promises of cash disbursement. Bank balances are therefore not money, just promises of money!
In the event of a stock market crash, the banks can no longer be solvent. In addition, the amount of cash is more than ten times smaller than the amount of book money. If concerned savers then want to withdraw cash from the bank, it may not be possible to withdraw it.
In the worst case, there is only a small amount of cash compared to the existing range of goods. The book money or the promise of money can then no longer have a monetary status and, due to a lack of trust, can no longer be used for payments.
A lack of money after the stock market crash leads to deflation
When in a stock market crash Promises of money can no longer be paid out, then there can be no hyper-inflation or even a disappearance of the currency. Because the money supply is decreasing - and that means one deflation.
A deflation however, has completely different, even stronger ones Effects on the individual as an inflation:
- Assets in the bank can no longer be paid out
- Debts are revalued - lending rates rise
- Debt companies become insolvent and stop production
- Jobs are disappearing due to bankrupt companies
- Material goods such as gold and precious metals also lose value
Today's ideas and also those of the so-called "crash prophets" are based on wrong ideas. This is because the terms money are confused. It will not differentiated between real money and book claims or promises of money.
However, since promises of money, which today make up 90% of our concept of money, become invalid in every crash, therefore, the amount of money inevitably shrinks in an economic crisis. Inflation can therefore never arise immediately after a financial crash and has never been observed in this way in all of history.
What is to be expected is deflation. Debtors in particular are then hit hard because theirs Loans are revalued in a deflationary manner.
Stock market crash tips: what to do with stocks
The consequences and Effects of a stock market crashcannot be generalized. It depends a lot on the type and extent. The stock exchange prices recovered within a few weeks after September 11, 2001, so that investors were mostly able to sit out the crash.
The past has shown that Private investors were usually well advised if they kept calm and acted prudently. With a certain risk diversification in the portfolio, stock market crashes could usually be sat out well and the papers recovered. As an investor, you shouldn't let yourself be infected by panic, but rather keep calm and, if necessary, the depot. check for risk paper to sell. Selling the entire depot is usually not the way to go.
Not every stock market crash leads to an absolute loss. For the time being, you shouldn't let yourself get infected by panic and make ill-considered sales. It is often worth waiting for a crash. Long-term positive increases in share prices also promise future profits.
- Perform a check of the stock portfolio
A stock market crash is a good opportunity to review the stocks you own and take a critical look at the distribution. In addition, it should be considered whether the reason for buying the security in question still exists. At the same time, you can take a quick look at the price: is it steadily increasing over the long term or is it more of a loser?
- Reallocate the assets
As an investor, you may have invested a large part of your assets in stocks due to the rising share prices. After a stock market crash, the proportion of shares should be reduced. Fundamentally, there must always be freely available assets left over when investing in securities.
- Take advantage of the low price
Long-term monitoring of promising stocks pays off during a stock market crash. In this situation, it can be worthwhile to invest in securities that will rise over the long term.
- Invest in bank-independent call and put options
A combination of call and put options enables profit even when stock prices are falling. 3: 1 means that, for example, € 1,000 is invested in put options (the secure basis) and € 3,000 in call options (which yield a profit if the indices rise).
If the prices fall sharply in a stock market crash, there is a significant loss in the call options, but the put options increase and thus the total value of the portfolio.
More about the 3: 1 strategy with call and put options here
- But: do without margin accounts
With a margin account, the money in the stock portfolio is used as collateral to borrow money for new investments. For example, if you invest € 20,000 in such an account with a margin in the ratio of 1: 2, € 40,000 will be invested in stocks. If the share price rises by 10%, the margin account grows to € 44,000, which corresponds to a return of 20%.
But if the share price falls, then 10% means a loss of 20% on the investment of € 20,000. In this case, the amount on the account may be reclaimed.
Stock market crash: historical examples
You have to look far back into the past to find the first stock market crashes. So at the beginning of the 18th century England, a speculative bubble around the South Sea Companywho wanted to trade in the South Seas and prospect for gold. The expectations of the company were not met in any way, so that the value of the company shares plummeted from 1,000 British pounds into the abyss within a very short time.
The Probably the most famous stock market crash occurred in October 1929. In previous years, the American Dow Jones had risen sharply, but then had to record significant declines. This triggered panic among investors who subsequently tried to sell their papers almost simultaneously. Within a few days there was a price loss of around 40%. This crash is considered to be the trigger for the Great Depression and the Great Depression.
All crashes have one thing in common: Those who were not discouraged by the price losses were among the winners in the medium and long term. The prerequisite was, of course, that the depot was set up securely and that no losses had to be booked that would mean the end.
The tulip crisis in 1637: the first stock market crash in history
Shortly after the introduction of securities, in the 17th century in the Netherlands, trading in tulip bulbs triggered a stock market crash.
After the price of the then very valuable plants had risen sharply, a large part of the affluent population had invested in them. Due to the high demand, the price and value of the tulip bulb were not in a rational relationship to one another. Allegedly you paid the equivalent of up to € 50,000 for a rare species.
But soon the disillusionment followed. To the Skim off profit, the first tulip bulbs were sold again. This caused a real panic that the plants could lose value. This reaction left the The resulting speculative bubble burst suddenly and lead to the first stock market crash in world history.
100 years after the first stock market crash, the first two speculative bubbles based on securities followed.
Stock market crash in 1720: The South Sea Bubble
The English South Sea Companyhad offered shares at the beginning of the 18th century. The investments were intended to be used to mine gold in North America. Shortly after the initial offer, the price of the security rose from £ 120 to over £ 1,000. At the same time there was a brisk trade in raw materials but also slaves, which brought in exorbitant profits.
When hopes for gold could not be satisfied, the South Sea Company did not have sufficient funds to pay the dividends due. Word got around quickly and triggered a sudden stock market crash.
The Mississippi Company's stock market crash in 1720
The Mississippi Company, or actually Compagnie de la Louisiane ou d'Occident was founded in 1717 by John Law established for the French colonies in America. The local population suffered from a severe lack of capital because the money came from virtually worthless government bonds. With the Mississippi Company, however, new monopolies and promising privileges could be acquired.
Since the company's shares were in high demand, several followed Capital increases. The Parisians Banque Royal issued more and more paper money as well as bondsso that the purchase of the securities was made possible. The steadily growing bubble eventually sparked speculation on real estate.
Initially brought the stocks apparently positive effects: The high national debt of France could be concealed, as it was rescheduled into low-interest loans. The introduction of paper money also had a positive impact on the economy. Over time, however, the large amount of money in circulation triggered inflation.
The population lost confidence in the banknotes and realized that the American Mississippi Company could not repay the promised returns. That led to Burst of the huge speculative bubble, at the same time as the South Sea bubble. Due to the high, sudden sales, the value of the shares decreased to zero. France then returned from paper banknotes to coins.
Stock market crash in 1882: The collapse of the Paris Stock Exchange
at the end of the 19th century expanded the railroad to the Balkans. The project was financed by French banks. The Paris Stock Exchange celebrated. However, feasibility and financial feasibility were not questioned.
It turned out that the Railway companies could not finance the expansion. The courses fell until the stock market crashed.
Stock market crash in 1907: the copper scandal
The so-called copper scandal was based inter alia. on risky business of the banks with precious metals.
In early 1907 the Dow Jones lost 10%. In August of the same year it lost another 8% and again 11% each in October and November 1907.
Probably the most famous stock market crash: Black Friday 1929
Unemployment, deflation, bankrupt companies, social misery and political crises - that was it Effects of the Great Depression. The contrast to the carefree golden twenties could hardly have been greater. Black Friday 1929 went down in history as the starting point of this crisis.
How did the stock market crash in 1929?
After the end of the 1st World War the economy had slowly recovered. Most people were optimistic and expected growth to continue. The result: Many wanted to invest their money profitably in the stock markets. However, a large part of the investments was associated with great risks and, in some cases, was made with borrowed money.
Investors seemed to be in a stock market bug. They dreamed of being able to live off the stock gains without having to work. In 1928, the exchange had to be closed several times so that the orders that had not yet been processed could actually be processed. The prices rose to enormous heights beyond the real operating results. Most investors overlooked the fact that this development was unrealistic. The enormous fall in the share price on October 24, 1929, Black Thursday, was all the more surprising.
In the summer of 1929 it was gradually realized that the American companies had increased their production too much. The prices began to decline on October 24, 1929, the next day they fell sharply. Because of this, most of the shareholders decided to sell their shares. Many were even forced to do so because they had financed the shares with loans and the banks were demanding the money back.
So were 16.5 million shares sold on Wall Street on October 29, 1929. Investors could literally watch as their assets invested in securities depreciate in value. Many people faced bankruptcy, banks collapsed. In the following winter, prices rose briefly, reaching their lowest point in March 1933. The stocks had lost an average of 75% of their value.
Europe was also affected by the 1929 stock market crash
The crisis that began in the US quickly spread to Europe. The reason for this was the insolvency of major American banks that had worldwide credit connections. In an emergency, foreign loans had to be canceled.
Germany was hit particularly hard by the crisis. The economic upturn there (1924-1929) was mainly due to short-term American loans, many of which were passed on by the banks over the long term. In addition, the big banks were not adequately secured by liquid funds and equity.
The result: From 1929 to 1932, German exports of goods fell from 13.5 billion to 5.7 billion Reichsmarks.
The 1973 oil price crisis
During the oil price crisis, the price of crude oil rose from under $ 4 to around $ 12 per barrel of oil.
During the Yom Kippur War, the Organization of the Arab Petroleum Exporting States (OAPEC) deliberately cut back the amount of oil producedto put pressure on the western states that supported Israel in the war against the Arab states. At the same time, the US suffered from inflation and the depreciation of the dollar. Meanwhile, the oil price rose immeasurably.
As a result, the German government decided with Willy Brandt a Sunday driving ban for cars and a speed limit of 100 km / h on German motorways. Similar measures are also being taken in the Netherlands, Denmark, Luxembourg and Switzerland. There was also a reaction in politics. Israel was ordered to evacuate the occupied territories. That eased the pressure on OPEC. Nevertheless, the price of crude oil remained at a high level.
The "oil shock" led to enormous price losses on the stock markets.
1987 stock market crash: Black Monday
Psychology played an important role in this stock market crash. It was probably the fear of a global economic crisis that drove the Dow Jones down about 23% on October 19, 1987. The exact reason for the sudden price loss is not exactly clear. Since it was a Monday, today we speak of Black Monday, the first stock market crash after World War II.
The 1998 Asian Crisis
This crisis started in Asia. Today, economic and economic policy factors are cited as the cause, such as high investments, deficits in the trade balance, but also high loans, including from foreign currencies.
After the liberalization of the financial sector, Asia was among other things a regular one Credit boom originated. Much of the money borrowed was also used to buy real estate and stocks. This caused real estate prices to rise, and with them share prices. The banks felt they were safe and continued to confidently grant loans that flowed into securities.
In addition to this credit bubble, there were other additional ones Factors that caused the Asian crisis:
- Lack of foreign currency hedging
- Foreign debts that exceeded their own currency reserves
- Generally unstable financial market structures
- Wrong decisions within the international financial markets
Then the Asian stock market indices fell. The Russian stock market was also affected. The intervention of the International Monetary Fund (IMF) and the World Bank could only slowly bring about a balance.
Stock market crash from 2000: the bursting of the dot-com bubble
The term dot-com bubble refers to a speculative bubble that burst in the year 2000, its origin already in the year 1995 found.
The background to the dot-com bubble
As that Internet in the mid 1990s one always higher priority was attributed, numerous companies were formed, which geared their business mainly to this medium. Trigger for the big boom was the widespread euphoria surrounding the new technological developments. In the industrialized countries in particular, the Internet and cell phones became more and more important.
In response to this worldwide hype romped about from 1995 numerous young start-up companies on the stock markets. The German stock exchange even established the so-called Neuer Markt as a separate market segment for future-oriented and rapidly growing technology companies.
The trend-setting character of the new technologies enticed many investors to choose you Investing money in the stocks of startups. Spurred on by the media, they hoped to share in what they believed to be future profits.
Blinded by high expectations ignored a majority of investors, however fundamental company valuations as well as annual financial statements. Since startups typically need their capital to grow, investors have not been able to generate profits or dividends as a result. However, many realized this too late.
If you look at the Deutsche Telekom shares At its heyday, it becomes clear that Germany, too, has not been spared the euphoria surrounding the dot-com bubble. In March 2000 the share was quoted at € 104.90 - its all-time high to date.
It was not known until late that the Companies could not cover their market value with any material equivalentbut rather through the intellectual achievements of their employees. After the first insolvency reports, doubts about the supposed hope of the Internet grew louder. The first speculators began to sell.
in the March 2000 the price drop finally turned into a real one Price fallwhen many investors began to sell their stocks at any price because of the emerging panic.
Small investors in particular, but also experienced stockbrokers, speculated on an imminent recovery of the market, missed the jump and thus lost a large part of their assets. This stock market crash is known today as the “bursting of the dot-com bubble”.
Stock market crash 2008: the real estate bubble bursts
After the dot-com bubble burst, the US Federal Reserve held the Low interest rates for short-term investments. They soon continued to decline after the excess funds were invested in the market. That is why investors turned riskier investments to.
The Americans also took advantage of the low interest rate to investing in a home of your own. One also lured People with low credit ratings with so-called subprime loans, second rate credit. However, these were characterized by variable interest rates. The banks demanded security in the form of securities backed by mortgages.
In 2004 the US key interest rate gradually increasedso that those with subprime loans could no longer pay their interest. They were forced to sell their houses again. As a result, real estate prices plummeted. Mortgage-backed securities were downgraded and depreciated, creating great uncertainty. The high losses led, among others, to the Lehman Brothers investment bank goes bankrupt, they had previously invested large sums in the mortgage.
From then on, the indices of several countries, not just the US, fell. The resulting financial crisis spilled over to Europe in 2009 and plunged some industrialized countries into recession. Consumption fell worldwide. Germany Due to the strong export orientation, this was particularly true in the mechanical engineering and automotive sectors.
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