Black Monday

Contents

1. The day itself
2. The week before it
3. The month after
4. The new chairman
5. The halts written afterward
6. What it left behind

The years that taught Brent O’Mara that conventional assumptions do not always hold and that markets do not always cooperate came well after the day described here, but that one day remains the reference point the industry reaches for when it explains both. The name came afterward. NPR’s retrospective on the twentieth anniversary describes October 19, 1987 as the day that has come to be known as Black Monday, the label the press attached to the worst single day loss the American stock market had ever suffered, when a broad market index lost 23 percent of its value.³ The word is a journalist’s word rather than an official one, and it stuck because nothing else described a Monday on which nearly a quarter of the value of the market disappeared between the opening and the close.

The day itself

The accounts that survive are from the floor. The Wall Street Journal, on the thirtieth anniversary, recorded that American stocks dropped nearly 23 percent in a single day, and let a trader who had begun his career on the exchange floor shortly before the Kennedy assassination compare the two: the noise and mayhem of November 1963 was nothing beside October 1987.¹ That trader spent the day receiving orders from one institutional client to sell a single company’s shares in lots of fifty thousand, racing across the floor to fill each one and finding the phone ringing with the next by the time he returned to his post.¹ A second NPR piece replays a correspondent’s report from outside the exchange that afternoon: people coming out for smoking breaks looked shell shocked and used words like hysteria and panic to describe what was happening inside.⁴

The week before it

The fall did not arrive from a calm market. NPR notes that the 23 percent loss came on the heels of a 10 percent loss the week before, so that the market had given up roughly a third of its value in six trading days.³ The Washington Post, reporting a month later, described the background that traders were reading about on the way to work: officials in Congress and the administration still wrangling over ways to reduce the federal budget deficit, a standoff that had weighed on prices before the collapse and kept weighing on them afterward.⁵

Figure

The size of the fall

lost by a broad market index on October 19, 1987

23 percent

lost during the week before

10 percent

The month after

The Post’s dispatch of November 20, 1987 is a record of a market that had not recovered its footing. As dawn broke in American financial centers the overseas results were already in, down in Tokyo, Hong Kong, Singapore, Frankfurt and London; trading in New York was fitful, and the headline said the scars plainly showed as investors waited, watched and worried.⁵ The Journal’s video retrospective makes the point that distinguishes 1987 from the other bad years in this cluster: the day remains the largest one day percentage drop the American market has recorded.² The longer declines of 1929 and 2008 took months; this one took an afternoon.

The new chairman

The central bank was in new hands. Federal Reserve History records that Alan Greenspan took office as chairman of the Board of Governors on August 11, 1987, filling an unexpired term, and that shortly after assuming office he faced the October collapse and acted quickly to ensure liquidity in the markets.⁷ He would serve until 2006, through two recessions and the attacks of September 2001, but the first test came nine weeks into the job.⁷ Liquidity, in this sense, means that banks and dealers could borrow what they needed to keep paying for the trades already made, so that a fall in prices did not become a failure of the machinery that records who owns what.

The halts written afterward

The lasting institutional change was the trading halt. The New York Times reported in October 1989 that the New York exchange had asked the SEC to approve a one year extension of a system that would halt trading if the market dropped sharply: a one hour halt if the main average fell 250 points, and a halt of two more hours if it fell another 150 points the same day.⁶ The system had been on a one year trial, during which the trigger points were never reached, and the trial expired on October 19, the second anniversary of the collapse; the exchange’s president expected quick approval so that there would be no break in the arrangement.⁶ Those were the first circuit breakers, and the idea that a market should pause rather than fall without limit dates from the lessons of 1987.

Figure

How the 1988 trading halt system worked

1. 01
   First triggerA drop of 250 points in the main average halted trading for one hour
2. 02
   Second triggerA further drop of 150 points on the same day halted trading for two more hours
3. 03
   Test periodA one year trial during which neither trigger was reached, expiring on October 19, 1989
4. 04
   ExtensionThe exchange asked the SEC for another year so that the halts would continue without a break

What it left behind

The day sits in this cluster because of what it did to assumptions rather than to balances. A loss of that size in a single session was not in the record that the models of the time relied on, and the week showed that selling, once it begins at scale, feeds on itself, with each institutional order arriving while the last is still being filled.¹ That is the argument of diversification and its limits, where the question is what happens when everything falls at once, and of sequence risk, where the question is what such a day does to a person who has just begun to draw on savings. The twentieth anniversary broadcasts spent as much time asking whether such a day could recur as describing the one that had, which is itself a measure of what it left behind.⁴

The vocabulary of the episode is short and worth knowing. A trading halt is a pause imposed by an exchange on all trading, and a circuit breaker is the rule that triggers one automatically at a set decline. Liquidity is the ability to buy or sell without moving the price, and for a central bank it means lending so that the system that pays for trades keeps working. A block is a single order for tens of thousands of shares, the unit in which the selling of October 1987 arrived. And Black Monday itself is a label, not a legal term, for the day whose single session fall has not been matched since, and whose precedent, the collapse of 1929, is the subject of the next entry.