The Ghost Of Market Crashes Past

Author:
Publish date:

The specter that is haunting the markets lately goes by the name “1987.” A stock market runup, a buyout boom, high-yield bonds, increased government regulation, tax hikes on investments and buyouts. It all seems eerily familiar to many people with long memories. And the chart above is not exactly re-assuring.
But, surprisingly, some traders take the similarities to 1987 as a contrary indicator.
“There’s no way the Fed will allow October 19, 1987 to happen all over again,” a trader told us Monday night after his fifth scotch.
For some people, there’s always a bull market somewhere. And the assumption that a rate cut can and will save the markets—or even the broader economy—may be wishful thinking. Or just the scotch talking.
The Federal Reserve’s intervention is credited with the fast recovery in the Dow in 1987, when the stock index finished slightly up for the year. A gross domestic product grew 3.7 percent in 1987's third quarter, and continued in to grow in the subsequent quarters. There was the Fed fueled rock growth of 7.2 percent in 1987's fourth quarter, 1.9 percent in 1988's first quarter, 5.2 percent in 1988's second quarter, and 2.2 percent in 1988's third quarter. Buyouts resumed. High yield debt kept finding buyers. Jim Cramer famously made a lot of money.
But it didn’t last long. The leveraged buyout market came to a crash in 1989. The Dow turned bearish the next year. The country went into a recession. And many believe that the bear market and recession were on the early nineties were made far worse by the Fed’s 1987 intervention, which inflation hawks say created the illusion of prosperity and led to lots of capital misallocation. When market realities began to set in and capital started fleeing the dead-ends into which it had been led by the siren song of easy money, the pain really started?
Is the Federal Reserve trying to trod a more careful path this time? One thing’s for sure, if they don’t cut rates in September some will no doubt scream “they don’t know what they’re doing.” But it’s still an open question whether the Punch Bowl Caucus really understands what it’s doing.

Related