1987 Stock Market Crash Case Study

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1987 Stock Market Crash The stock market, alongside the attendant futures and options markets, crashed on October 19, 1987, a day known as “Black Monday” when the Dow Jones Industrial Average dropped by 22.6 percent. It is also referred to as the first contemporary global financial crisis (Bernhardt and Eckblad, 2013). S&P 500 stock market index also fell with about 20 percent. According to Carlson (2006), “The 1987 stock market crash was a major systemic shock. Not only did the prices of many financial assets tumble, but market functioning was severely impaired” (p.1). This crash is noteworthy because it showed the vulnerabilities of the trading systems themselves and how they could be stretched and come close to breaking in extreme conditions in addition to the swiftness and severity of the market…show more content…
Portfolio insurance was designed to protect individual investors from losses, but when used by many investors simultaneously, it may have helped make the fall in prices a systemic event with a feedback loop. The downward pressure exerted on futures markets from sales by portfolio insurers may have contributed to the discount that formed in the futures market relative to the cash market (Chicago Mercantile Exchange, Committee of Inquiry, 1987) which could have been transmitted to the cash markets by other investors” (p.17). Another important concept is the ’cascade’ theory. It suggests that short portfolio hedging (portfolio insurance) and stock market-futures market arbitrage can work together to trigger a downward trend in stock prices. However, data from firms holding large stock index futures positions around October 19, and the trading patterns which occurred at that time did not agree with those that would have to happen to support this theory. (Hineman, 1988) Difficulty in obtaining

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