Lessons from the 1987 Black Monday Flash Crash

On October 19th, 1987 the Dow Jones Industrial Average dropped 22.6% in a single trading session. A million dollar portfolio on Sunday finished Monday with $787,400. 

Based solely on this datapoint, one might assume that 1987 was a horrible year to be invested in stocks. Yet the total return for the year was 5.81%, including dividends. Huh. 

That’s partly because markets had a really strong, maybe excessively strong, year going into the crash. The Dow was up 44% from the beginning of the year through to the market’s peak in August of that year. Which is a lot, but remember, stock returns are almost always really lumpy. You get big positive bursts, and big drawdowns to match. Of course, the upswings are typically bigger and more frequent than the downside stumbles, and so the market goes up over time.

The other piece is that stocks bounced back quickly, regaining 57% of their losses in just two trading sessions. 

Both these actions are typical for stocks. One, that stocks mostly tend to go up a lot over time, and two, that stocks bounce from drawdowns almost as quickly as they went down. 

Had someone told you in January of that year, that there would be a one-day crash of 22.6%, what would you have done with your money? I imagine that most people would have held it in cash. Yet doing so would have been a mistake. 

And actually, it’s easy to imagine making a mistake worse than that, because even if a magical genie told them about the crash, most people would have gotten back into stocks sometime in early summer after missing out on a 30% gain. That would have felt good initially as stocks continued their upward climb, and the genie’s stock tip would have been fairly dismissed as mere hocus-pocus. Yet the crash would have still come eventually. (By the way, it’s good to maintain a healthy skepticism of any being that appears out of the ether to give you stock tips, be it a genie or Jim Cramer).

The lesson to take from this is that advance knowledge of a crash, or crisis, is not sufficient for investment success. That approach, aka market timing, simply doesn’t work. 

I’m not merely saying that no one knows when the next crash will happen, nor how severe it will be. I’m saying that even if you knew the year, and the depth of the crash (which is, in fact, impossible), you would not necessarily be better off with that information than you are with a consistent investment plan. 

A crash is always coming. I think it is reasonably likely that we will see another single-day crash of 20% or more in our lifetimes. When will it happen? Why? Who knows? I don’t. 

The good news is that such predictions aren’t necessary. They aren’t possible, and even if they were, they wouldn’t be sufficient. In other words, they are totally irrelevant and unproductive when it comes to your financial plan. 

Remember what matters in your life. Is it percentage returns? Looking smart with your investments so that you can snidely mention to your friends that you saw the crisis-du-jour coming and didn’t get hurt by it? Is it outperformance? Is it the avoidance of feeling stupid? 

These are “nice-to-have” at best. More probably, they are harmful distractions that pull your focus away from what actually matters to you in your real, actual life. 

What matters? Income that grows at least as fast as inflation, which you can count on to support you in your life. This income represents freedom to focus on what matters most for you, unworried about whether your other endeavors produce an income. It gives you the ability to choose who you spend your time with, and how you spend it. It allows you to let go of negative relationships, or shitty jobs, or to at least draw healthy boundaries for yourself because you aren’t so dependent on others for your well-being. Dignity, in other words. It also allows you to be creative, and give something to the world. It opens the door to rich experiences that you want to enjoy during your time on earth. It allows you to be fantastically charitable and generous. It also gives you time and materials for healing whatever it is in your life that is in need of repair. 

These are higher values. Your portfolio is only relevant to the extent that it serves and uplifts these values. Period. 

So how do you get those things? Well, there’s a lot of personal work and growth that goes into those, obviously. But financially speaking, it is possible to create and maintain an investment plan that gives you a healthy cushion of safety and stability in the short term, while allowing your wealth to grow handsomely over the long run. 

But there isn’t an option that will let your money grow like that, completely free of volatility. But again, the volatility is so unimportant. If you had to pick between everything I just described, and a totally smooth journey for your portfolio in which you lacked those other things, which would you pick? Only a crazy person would opt for the latter option.

Serenity comes when you recognize that market crashes are an inevitability. Your investments are going to crash 30%, every 5 years or so, on average. Over a 30 year retirement, that means seeing your stock holdings crater 6 times or more. That’s painful, and those moments will have a lot of fear, but we plan on that. 

Given that these crashes are only to be expected, that we’ve built their inevitability into your plan, AND that what really matters is your ability to continue living an abundant life, what then is the relevance of any of these crashes? They still may sting, but they aren’t wounding your basic life energy, nor your capacity to live the life you’ve dreamed of. They’re just noise, no matter how vociferously the talking heads on tv make them out to be. 

Trust the process, stick to the plan, and have a great life.