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October: The Month Of Market Crashes?

2012-11-05 08:03:02

October 27 2009| Filed Under Currencies, Economics, Economy, Financial

Crisis, Financial Theory, Forex, Forex-Beginner, Recession

October is a unique month. In the west, October is a transitional month, autumn

sliding relentlessly towards winter. It also boasts the only holiday where

people are encouraged to dress up, scare each other and extort candy with

threats of mischief. October has a special place in finance, known as the

October effect, and is one of the most feared months in the financial calendar.

In this article we'll look at whether there's any merit behind this fear.

The events that have given October a bad name span 80 years. They are:

The Panic of 1907 (October 1907)

A financial panic threatened to engulf Wall Street, mostly owing to threats of

legislative action against trusts and shrinking credit. There were multiple

bank runs and heavy panic selling at the stock exchange. All that stood between

the U.S. and a serious crash was a J.P. Morgan led consortium that did the work

of the Fed before the Fed existed.

Black Tuesday, Thursday and Monday (October 1929)

The Crash of 1929 was bloodletting on an unprecedented scale because so many

more people were involved in the market. It left several "black" days in the

history books, each with their own record breaking slides. (For more, see The

Crash Of 1929 Could It Happen Again?)

Black Monday (October 1987)

Nothing says Monday like a financial meltdown. In 1987, automatic stop-loss

orders and financial contagion gave the market a thorough throttling as a

domino effect echoed across the world. The Fed and other central banks

intervened and the Dow recovered from the 22% drop quite rapidly. (See What Is

Black Monday? for more.)

Taking the Blame for September

Oddly enough, September, not October, has more historical down markets. More

importantly, the catalysts that set off both the 1929 crash and the 1907 panic

happened in September or earlier and the reaction was simply delayed. In 1907,

the panic nearly occurred in March and, with the tension building over the fate

of trusts, could have happened in almost any month. The 1929 Crash arguably

began when the Fed banned margin-trading loans in February and cranked up

interest rates.

September has its share of "Black Days," too:

Black Friday

The original "Black Day," Black Friday (1869), was in September. Jay Gould and

other speculators tried to corner the gold market, working with an insider at

the Treasury. The price kept rising until the Treasury broke the corner by

selling $5 million in gold, dropping the price of gold by $25 in a single day

and ruining many speculators.

Black Wednesday

Black Wednesday, Soros' raid on the British pound, is another September event

considered infamous by people outside of the forex community (within the forex

community, it's revered as of one of the greatest trades ever made). Soros made

a billion on the deal, but the British government lost billions trying to shore

up their currency leading up to the eventual capitulation. (To learn more, see

How Did George Soros "Break The Bank Of England"?)

Black Swans

September 2001 and 2008 single day point declines in the Dow were bigger than

Black Monday 1987, the former owing to the attacks on the World Trade Center

and the latter to the subprime mortgage meltdown. The 2008 September plunge

went far beyond the U.S. economy, trimming almost $2 trillion from the global

economy in a day. (For more, see our Investopedia Special Feature: Subprime

Mortgages.)

Taken as a whole, a very strong argument can be made for September being worse

for the markets than October.

An Angel in Disguise?

Surprisingly, October has historically heralded the end of more bear markets

than the beginning. The fact that it is viewed negatively may actually make it

one of the better buying opportunities for contrarians. Slides in 1987, 1990,

2001 and 2002 turned around in October and began long-term rallies. In

particular, Black Monday 1987 was one of the great buying opportunities of the

last 50 years. Peter Lynch, among others, took this opportunity to load up on

solid companies that he'd missed on their way up. When the market recovered,

many of these stocks shot up to their previous valuations and a select few went

far beyond. (Read more in, Pick Stocks Like Peter Lynch.)

Conclusion: October Effect Unjustified

October gets a bad rap in finance, primarily because so many black days fall in

this month. This a psychological effect rather than anything to blame on

October. The majority of investors have lived through more bad Septembers than

Octobers, but the real point is that financial events don't cluster at any

given point. The worst events of the 2008/2009 financial meltdown happened in

the spring with Lehman's collapse, more stocks fall in November and December

due to year-end rebalancing, and many financially damaging events haven't been

given Black Day status simply because the media didn't choose to dust off that

moniker at the time.

Although it'd be nice to have financial panics and crashes restrict themselves

to one particular month, October is no more prone to bad times than the other

11 months in the calendar. (For more, see our Market Crashes Tutorial.)

by Andrew Beattie

Andrew Beattie has spent most of his career writing, editing and managing Web

content in all its many forms. He is especially interested in the future of

search and the application of analytics to the business world. In addition to

being a long-time contributor to Investopedia.com, Andrew has been working on

ForexDictionary.com.