Advertisement

Crash Stories

  • Harold L. Vogel
Chapter

Abstract

Crashes differ from bubbles in many ways. In bubbles, there’s a fear of missing out (FOMO). In crashes, which crystallize faster, there’s a fear of staying in (FOSI). This chapter reviews and compares crash episodes, introduces a crash intensity metric, and shows that diversification fails to protect, liquidity disappears, there’s no place to hide, and hedging is expensive and typically ineffective. In a bear market, normally the only asset class in which real purchasing power and optionality rises is cash.

References

  1. Adrian, T., & Shin, H. S. (2008, January/February). Liquidity, Monetary Policy, and Financial Cycles. Current Issues in Economics and Finance, Federal Reserve Bank of New York, 14(1). Available at: http://www.newyorkfed.org/research/current_issues/ci14-1.pdf
  2. Allen, F., & Gale, D. (2007). Understanding Financial Crises. New York: Oxford University Press.Google Scholar
  3. Allen, F., Babus, A., & Carletti, E. (2009). Financial Crises: Theory and Evidence. Annual Review of Financial Economics, 1. Palo Alto: Annual Reviews.Google Scholar
  4. Alpert, B. (2008, July 14). The Numbers Speak for Themselves. Barron’s.Google Scholar
  5. Anderson, J. (2008, February 19). Wall Street Banks Confront a String of Write-downs. New York Times.Google Scholar
  6. Barro, R. J. (2006). Rare Disasters and Asset Markets in the Twentieth Century. Quarterly Journal of Economics, 121(3), 823–866.CrossRefGoogle Scholar
  7. Barro, R. J. (2009, March 4). What Are the Odds of a Depression? Wall Street Journal.Google Scholar
  8. Barro, R. J., & Ursua, J. F. (2009, May 5). Pandemics and Depressions. Wall Street Journal.Google Scholar
  9. Berge, T. J., & Jordá O. (2010, August 9). Future Recession Risks. San Francisco: Economic Letter, Federal Reserve Board of San Francisco.Google Scholar
  10. Bernanke, B. S., & Gertler, M. (1989). Agency Costs, Net Worth, and Business Fluctuations. American Economic Review, 79(1), 14–31.Google Scholar
  11. Bookstaber, R. (2017). The End of Theory: Financial Crises, the Failure of Economics, and the Sweep of Human Interaction. Princeton: Princeton University Press.CrossRefGoogle Scholar
  12. Brooks, C., & Katsaris, A. (2003). Regime Switching Models of Speculative Bubbles with Volume: An Empirical Investigation of the S&P 500 Composite Index. Reading: IMSA.Google Scholar
  13. Browning, E. S., & Lobb, A. (2008, October 10). Market’s 7-Day Rout Leaves U.S. Reeling. Wall Street Journal.Google Scholar
  14. Bruner, R. F., & Carr, S. D. (2007). The Panic of 1907: Lessons Learned from the Market’s Perfect Storm. Hoboken: Wiley.Google Scholar
  15. Buchan, J. (1997). Frozen Desire: The Meaning of Money. New York: Farrar Straus Giroux.Google Scholar
  16. Buiter, W. H., & Sibert, A. (2004). Deflationary Bubbles. Working Paper No. W10642, NBER.Google Scholar
  17. Caginalp, G., Porter, D., & Smith, V. L. (2001). Financial Bubbles: Excess Cash, Momentum, and Incomplete Information. The Journal of Psychology and Financial Markets, 2(2), 80–99. See also, Journal of Behavioral Finance.CrossRefGoogle Scholar
  18. Campbell, R., Koedijk, K., & Kofman, P. (2002). Increased Correlation in Bear Markets. Financial Analysts Journal, 58(1), 87–94.CrossRefGoogle Scholar
  19. Capie, F. H., & Wood, G. E. (Eds.). (2007). The Lender of Last Resort. London/New York: Routledge.Google Scholar
  20. Carney, B. M. (2008, October 18). Bernanke Is Fighting the Last War. Wall Street Journal.Google Scholar
  21. Chari, V. V., & Kehoe, P. J. (2000). Financial Crises as Herds. Working Paper 600, Federal Reserve Bank of Minneapolis.Google Scholar
  22. Chari, V. V., & Kehoe, P. J. (2003). Financial Crises as Herds: Overturning the Critiques. Staff Report 316, Federal Reserve Bank of Minneapolis.Google Scholar
  23. Chen, J., Hong, H., & Stein, J. C. (2000). Forecasting Crashes: Trading Volume, Past Returns and Conditional Skewness in Stock Prices. NBER Working Paper No. 7687.Google Scholar
  24. Congdon, T., & Hanke, S. H. (2017, March 14). More Bank Capital Could Kill the Economy. Wall Street Journal.Google Scholar
  25. Craig, S., McCracken, J., Luccehtti, A., & Kelly, K. (2008, December 29). The Weekend That Wall Street Died. Wall Street Journal.Google Scholar
  26. Dardik, I. (2017). The Nature of Nature: The Discovery of SuperWaves and How It Changes Everything. New York: Rodale.Google Scholar
  27. Dent, H. S., Jr. (2016). The Sale of a Lifetime: How the Great Bubble Burst of 2017–2019 Can Make You Rich. New York: Penguin/Random House.Google Scholar
  28. Dufwenberg, M., Lindqvist, T., & Moore, E. (2005). Bubbles and Experience: An Experiment. American Economic Review, 95(5), 1731–1737.CrossRefGoogle Scholar
  29. Estrella, A., & Mishkin, F. S. (1996). The Yield Curve as a Predictor of U.S. Recessions. Current Issues in Finance and Economics, (2)7. Federal Reserve Bank of New York.Google Scholar
  30. Evans, L. L., Jr. (2003). Why the Bubble Burst: US Stock Market Performance Since 1982. Cheltenham: Edward Elgar.Google Scholar
  31. Ewing, J. (2010, July 12). Crisis Awaits World’s Banks as Trillions Come Due. New York Times.Google Scholar
  32. Fabozzi, F. J., Focardi, S. M., & Jonas, C. (2014). Investment Management: A Science to Teach or an Art to Learn? Charlottesville: CFA Institute Research Foundation.Google Scholar
  33. Fleckenstein, W. A., & Sheehan, F. (2008). Greenspan’s Bubbles: The Age of Ignorance at the Federal Reserve. New York: McGraw-Hill.Google Scholar
  34. Futia, C. (2009). The Art of Contrarian Trading: How to Profit from Crowd Behavior in the Financial Markets. Hoboken: Wiley.Google Scholar
  35. Galbraith, J. K. (1988). The Great Crash, 1929 (2nd ed.). Boston: Houghton-Mifflin.Google Scholar
  36. Garber, P. M. (1989). Tulipmania. Journal of Political Economy, 97(3), 535–560.CrossRefGoogle Scholar
  37. Gehring, W. J., & Willoughby, A. R. (2002). The Medial Frontal Cortex and the Rapid Processing of Monetary Gains and Losses. Science, 295, 2279–2282.CrossRefGoogle Scholar
  38. Gongloff, M. (2008, March 17). Crunch Proves a Test of Faith for Street Strong. Wall Street Journal.Google Scholar
  39. Goodman, P. S. (2008, October 8). Taking Hard New Look at a Greenspan Legacy. New York Times.Google Scholar
  40. Gorton, G. B. (1988). Banking Panics and Business Cycles. Oxford Economic Papers, 40.Google Scholar
  41. Gorton, G. B. (2009). Information, Liquidity, and the (Ongoing) Panic of 2007. American Economic Review, 99(2), 567–572.CrossRefGoogle Scholar
  42. Gorton, G. B. (2010). Slapped by the Invisible Hand: The Panic of 2007. New York: Oxford University Press.Google Scholar
  43. Grant, J. (1996). The Trouble with Prosperity: The Loss of Fear, the Rise of Speculation, and the Risk. New York: Times Books (Random House).Google Scholar
  44. Greenspan, A. (2008, March 16). We Will Never Have a Perfect Model of Risk. Financial Times.Google Scholar
  45. Greenspan, A. (2013). The Map and the Territory: Risk, Human Nature, and the Future of Forecasting. New York: Penguin.Google Scholar
  46. Hall, R. E. (2001). Struggling to Understand the Stock Market. American Economic Review, 91(2), 1–11.CrossRefGoogle Scholar
  47. Hamilton, J. D., & Lin, G. (1996). Stock Market Volatility and the Business Cycle. Journal of Applied Econometrics, 11(5), 573–593.CrossRefGoogle Scholar
  48. Hansell, S. (2008, September 18). How Wall Street Lied to Its Computers. New York Times.Google Scholar
  49. Hartcher, P. (2006). Bubble Man. New York: W. W. Norton.Google Scholar
  50. Herrera, S., & Perry, G. E. (2003). Tropical Bubbles: Asset Prices in Latin America, 1980–2001. In Hunter et al. (2003 [2005]).Google Scholar
  51. Hunter, W. C., Kaufman, G. G., & Pomerleano, M. (Eds.). (2003). Asset Price Bubbles: The Implications for Monetary, Regulatory, and International Policies. Cambridge, MA: MIT Press (Paperback edition, 2005).Google Scholar
  52. International Monetary Fund [IMF]. (2003). When Bubbles Burst. World Economic Report. Washington, DC: IMF.Google Scholar
  53. Juglar, C. (1966). A Brief History of Panics and Their Periodical Occurrence in the United States (3rd ed.). New York: A. M. Kelley. Reprint of the 1916 Edition Translated by DeC. W. Thom.Google Scholar
  54. Kindleberger, C., & Aliber, R. Z. (2011). Manias, Panics, and Crashes: A History of Financial Crises (6th ed.). Houndmills: Palgrave Macmillan.Google Scholar
  55. Koivu, M., Pennanen, T., & Ziemba, W. T. (2005). Cointegration Analysis of the Fed Model. Finance Research Letters, 2, 248–259.CrossRefGoogle Scholar
  56. Koo, R. C. (2010). Lessons from Japan: Fighting a Balance Sheet Recession. CFA Institute Conference Proceedings Quarterly, 27(4), 28–39.CrossRefGoogle Scholar
  57. Lahart, J. (2007, August 18). In Time of Tumult, Obscure Economist Gains Currency. Wall Street Journal.Google Scholar
  58. Laise, E. (2010, March 13). The Professor Who Chases Financial Bubbles. Wall Street Journal.Google Scholar
  59. Lauricella, T. (2009, July 10). Failure of a Fail-Safe Strategy Sends Investors Scrambling. Wall Street Journal.Google Scholar
  60. Leonhardt, D. (2008, September 30). Lessons from a Crisis: When Trust Vanishes, Worry. New York Times.Google Scholar
  61. Lleo, S., & Ziemba, W. T. (2012). Stock Market Crashes in 2007–2009: Were We Able to Predict Them? Quantitative Finance, 12, 1161–1187.CrossRefGoogle Scholar
  62. Lleo, S., & Ziemba, W. T. (2015). Some Historical Perspectives on the Bond-Stock Yield Model for Crash Prediction Around the World. International Journal of Forecasting, 31.Google Scholar
  63. Lleo, S., & Ziemba, W. T. (2017). Can Warren Buffett Forecast Equity Market Corrections? Available at https://ssrn.com/abstract=2630068 or https://doi.org/10.2139/ssrn.2630068
  64. Lowenstein, R. (2008, September 6). Long-Term Capital: It’s a Short-Term Memory. New York Times.Google Scholar
  65. Maddison, A. (2003). The World Economy: Historical Statistics. Paris: OECD.CrossRefGoogle Scholar
  66. Mallaby, S. (2016). The Man Who Knew: the Life and Times of Alan Greenspan. New York: Penguin/Random House.Google Scholar
  67. Martin, F. (2015). Money: The Unauthorized Biography – From Coinage to Cryptocurrencies. New York: Random House/Vintage (Paperback edition).Google Scholar
  68. Mayo, M. (2011). Exile on Wall Street: One Analysts Fight to Save the Big Banks from Themselves. Hoboken: Wiley.Google Scholar
  69. Mehrling, P. (2011). The New Lombard Street: How the Fed Became the Dealer of Last Resort. Princeton: Princeton University Press.Google Scholar
  70. Miller, R. M. (2002). Experimental Economics: How We Can Build Better Financial Markets. Hoboken: Wiley.Google Scholar
  71. Minsky, H. P. (2008). Stabilizing an Unstable Economy. New York: McGraw-Hill. (1996), New Haven: Yale University Press.Google Scholar
  72. Mishkin, F. S.(2003). U.S. Stock Market Crashes and Their Aftermath: Implications for Monetary Policy. In Hunter et al (2003 [2005]).Google Scholar
  73. Montier, J. (2007). Behavioural Investing: A Practitioners Guide to Applying Behavioural Finance. Chichester/Hoboken: Wiley.CrossRefGoogle Scholar
  74. Nations, S. (2017). A History of the United States in Five Crashes: Stock Meltdowns that Defined a Nation. New York: William Morrow (HarperCollins).Google Scholar
  75. Newman, P., Milgate, M., & Eatwell, J. (Eds.). (1992). The New Palgrave Dictionary of Money and Finance. London: Macmillan Press.Google Scholar
  76. Nocera, J. (2008, October 1). As Credit Crisis Spiraled, Alarm Led to Action. New York Times.Google Scholar
  77. Ofek, E., & Richardson, M. (2001). DotCom Mania: The Rise and Fall of Internet Stock Prices. Working paper, No. 8630, National Bureau of Economic Research.Google Scholar
  78. Oliver, M. J. (2007). Financial Crises. In M. J. Oliver & D. H. Aldcroft (Eds.), Economic Disasters of the Twentieth Century. Cheltenham: Elgar.CrossRefGoogle Scholar
  79. Oliver, M. J., & Aldcroft, D. H. (Eds.). (2007). Economic Disasters of the Twentieth Century. Cheltenham, UK: Elgar.Google Scholar
  80. Patterson, S. (2010). The Quants: How a New Breed of Math Whizzes Conquered Wall Street and Nearly Destroyed It. New York: Crown (Random House).Google Scholar
  81. Pepper, G., & Oliver, M. J. (2006). The Liquidity Theory of Asset Prices. Chichester/West Sussex: Wiley.CrossRefGoogle Scholar
  82. Peters, E. E. (1994). Fractal Market Analysis: Applying Chaos Theory to Investment and Economics. New York: Wiley.Google Scholar
  83. Prechter, R. R., Jr. (2016). The Socionomic Theory of Finance. Gainesville: Socionomics Institute Press.Google Scholar
  84. Redleaf, A., & Vigilante, R. (2010). Panic: The Betrayal of Capitalism by Wall Street and Washington. Minneapolis: Richard Vigilante Books.Google Scholar
  85. Reinhart, C. M., & Rogoff, K. S. (2009). This Time Is Different: Eight Centuries of Financial Folly. Princeton: Princeton University Press.Google Scholar
  86. Roehner, B. M. (2000). Identifying the Bottom Line After a Stock Market Crash. International Journal of Modern Physics, C, 11(1), 91–100.CrossRefGoogle Scholar
  87. Roehner, B. M. (2002). Patterns of Speculation: A Study in Observational Econophysics. Cambridge, UK: Cambridge University Press.CrossRefGoogle Scholar
  88. Russolillo, S., & Kilgore, T. (2010, August 14). ‘Hindenburg Omen’ Flashes. Wall Street Journal.Google Scholar
  89. Schularick, M., & Taylor, A. (2012). Credit Booms Gone Bust: Monetary Policy, Leverage Cycles and Financial Crises, 1870–2008. American Economic Review, 102(2), 1029–1061.CrossRefGoogle Scholar
  90. Schumpeter, J. A. (1934). The Theory of Economic Development: An Inquiry into Profits, Capital, Credit, Interest and the Business Cycle. Trans. Opie. Cambridge, MA: Harvard University Press edition. 1961.Google Scholar
  91. Schwert, G. W. (1989). Business Cycles, Financial Crises, and Stock Volatility. Working Paper No. 2957, NBER (May).Google Scholar
  92. Siegel, J. J. (2006, December 6). Irrational Exuberance, Reconsidered. Wall Street Journal.Google Scholar
  93. Siegel, J. J. (2008, 2014). Stocks for the Long Run (4th and 5th eds.). New York: McGraw-Hill.Google Scholar
  94. Silver, N. (2012). The Signal and the Noise: Why So Many Predictions Fail – But Some Don’t. New York: Penguin.Google Scholar
  95. Skypala, P. (2014, September 1). Ditch the Hokum on Asset Diversification. Financial Times.Google Scholar
  96. Smith, V. L., Suchanek, G. L., & Williams, A. W. (1988, September). Bubbles, Crashes, and Endogenous Expectations in Experimental Spot Asset Markets. Econometrica, 56(5).CrossRefGoogle Scholar
  97. Summers, L. H. (2016, February 16). It’s Time to Kill the $100 Bill. Washington Post.Google Scholar
  98. Summers, G. (2017). The Everything Bubble: The Endgame for Central Banking. North Charleston: CreateSpace Independent Publishing.Google Scholar
  99. Surowiecki, J. (2004). The Wisdom of Crowds. New York: Doubleday.Google Scholar
  100. Swarup, B. (2014). Money Mania: Booms, Panics and Busts from Ancient Rome to the Great Meltdown. New York: Bloomsbury Press.Google Scholar
  101. Taleb, N. N. (2005). Fooled by Randomness (2nd paperback ed.). New York: Random House.Google Scholar
  102. Tapia, J. A. (2014). From the Oil Crisis to the Great Recession: Five Crises of the World Economy. Paper presented January 3 at the ASSA annual meeting in Philadelphia.Google Scholar
  103. Triana, P. (2009). Lecturing Birds on Flying: Can Mathematical Theories Destroy the Financial Markets? Hoboken: Wiley.Google Scholar
  104. Triana, P. (2012). The Number that Killed Us: A Story of Modern Banking, Flawed Mathematics, and a Big Financial Crisis. Hoboken: Wiley.CrossRefGoogle Scholar
  105. Tuckett, D. (2011). Minding the Markets: An Emotional Finance View of Financial Instability. London: Palgrave Macmillan.CrossRefGoogle Scholar
  106. Ursua, J. F., & Barro, R. J. (2009). Stock-Market Crashes and Depressions. Working Paper Series, No. w14760. Cambridge, MA: National Bureau of Economic Research.Google Scholar
  107. Vandewalle, N., Ausloos, M., Boveroux, P., & Minguet, A. (1999). Visualizing the Log-Periodic Pattern before Crashes. European Physical Journal B, 9(2), 355–359.CrossRefGoogle Scholar
  108. Vines, S. (2005). Market Panic: Wild Gyrations, Risks, and Opportunities in Stock Markets. Singapore: Wiley (Paperback edition).Google Scholar
  109. Visco, I. (2003). Comments on Recent Experiences with Asset Price Bubbles. In Hunter et al. (2003).Google Scholar
  110. Vogel, H. L., & Werner, R. A. (2015). An Analytical Review of Volatility Metrics for Bubbles and Crashes. International Review of Financial Analysis, 38, 15–28.CrossRefGoogle Scholar
  111. Von Mises, L. (1979, 2006). Economic Policy: Thoughts for Today and Tomorrow. Chicago: Regnery/Gateway. Third ed. 2006. Available at http://books.google.com/books/download
  112. Voth, H.-J. (2003). With a Bang, Not a Whimper: Pricking Germany’s ‘Stock Market Bubble’ in 1927 and the Slide into Depression. Journal of Economic History, 63(1), 65–99.CrossRefGoogle Scholar
  113. Werner, R. A. 2003). Princes of the Yen: Japan’s Central Bankers and the Transformation of the Economy. Armonk/New York/London: M. E. Sharpe. (East Gate Books).Google Scholar
  114. White, E. N. (Ed.). (1990). Crashes and Panics: The Lessons from History. Homewood: Dow-Jones-Irwin.Google Scholar
  115. Wilmott, P. (2001). Paul Wilmott Introduces Quantitative Finance. Chichester: Wiley.Google Scholar
  116. Wilson, J. W., Sylla, R. E., & Jones, C. P. (1990). Financial Market Panics and Volatility in the Long Run, 1830–1988. In E. N. White (Ed.), Crashes and Panics: The Lessons from History. Homewood: Dow-Jones-Irwin.Google Scholar
  117. Wood, G. E. (2007). Stock Market Crashes. In M. J. Oliver and D. H. Aldcroft (Eds.), Economic Disasters of the Twentieth Century. Cheltenham, UK: Elgar.Google Scholar
  118. Ziemba, R. E. S., & Ziemba, W. T. (2007). Scenarios for Risk Management and Global Investment Strategies. Chichester: Wiley.Google Scholar
  119. Ziemba, W. T., Lleo, S., & Zhitlukhin, M. (2018). Stock Market Crashes: Predictable and Unpredictable and What to Do about Them. Singapore and Hoboken, NJ: World Scientific.CrossRefGoogle Scholar
  120. Zweig, J. (2015, November 14). Deciphering the Dialect: A Wall Street Glossary. Wall Street Journal.Google Scholar

Copyright information

© The Author(s) 2018

Authors and Affiliations

  • Harold L. Vogel
    • 1
  1. 1.New YorkUSA

Personalised recommendations