Important lessons from the 4 big stock market meltdowns of our times…

Actually, everyone likes to talk about it. Even those who do not have exposure to the market will have an opinion about the crash.

The media does its job dutifully. talk about headlines ‘X’ lakh crore property, finished in a day

Most Indians who haven’t even seen a crore in their entire life wonder how so much money can be ‘lost’ so quickly.

A market crash or its wicked big brother, the ‘bear market’, strikes an aura of fear in the minds of investors and traders alike. Many people have big money at stake when the ‘Bear’ is called. Most didn’t have the appetite to take a big loss in the first place.

And if they don’t sell on time, their losses are usually so severe, that they’re in for a surprise. Tragic stories of people committing suicide because of these losses get into the news.

But in all the doom and gloom, what can we learn? How can we use the experience and knowledge gained in these tough times in our wealth creation journey?

Let us see what happened during the last 4 major market downturns and important lessons we should learn from them…

Harshad Mehta accident

1992.

For the first time, the setback for Indian investors was so great that many never returned to the market.

When the shocking scale of Mehta’s manipulation came to light, the market fell by 40 percent. Never before had the Indian stock market suffered such a setback.

Several reforms were introduced. NSE was established. Business became computerized. The stock market opened to the whole country. Strict corporate governance and banking rules were enforced.

But what did investors learn?

Well, for many there was only one lesson. They came to the conclusion that the stock market was a big scam, a gambler’s haunt, nothing more.

At the time, it was appropriate to think along these lines. Eventually, he had lost his life savings.

But those who stayed invested, and those who invested more after the crash, learned a very different lesson – ‘Long term investment can make you rich’.

The market corrected itself early next year. Though the Sensex did not make new highs for long, many high quality stocks became multibaggers in the 1990s.

This decade also saw the rise of software firms. Early investors in these stocks are among the richest people in the country today.

Despite all the wealth creation that follows, there are big lessons to be learned…

• Never invest all your life savings in the market. If you do this then some big accident will destroy your financial condition.

• Never borrow to invest/trade in the market. The debt won’t go away when a market crash destroys your net worth.

• Do not blindly buy smallcap stocks based on the advice of brokers or anyone else. There are countless examples of stocks that have just disappeared in the 1990s.

• If the benchmark stock market index doubles in a few months, you should sell your shares and not buy them.

dot com crash

2000.

turn of the millennium. This was a time when traditional Indian thinking was replaced by modern ideas. India had become a nuclear power but had not yet become a modern nation.

It was the same in the stock market.

New technologies had arrived. Computerized trading was taking over from the open outcry system.

The news media covered the stock market very closely. Investors and traders began to look at global markets, especially the NASDAQ, and how they affected our market.

The Indian stock market had a level of sophistication that had never existed before.

I wish the Indian investor had learned nothing from the past.

People got swept up in the dot com craze. Software stocks that had a modest start in the 1990s — the Infosys IPO initially not fully subscribed — were now market heroes.

TMT was the talk of the town – technology, media and telecommunications.

The valuation of these shares went up to the roof. It was a global phenomenon. Tech stocks were on fire everywhere.

A new name was created – ‘New Economy’. Anything that was not related to technology was called the ‘old economy’.

And then of course, the party came to an end. The Indian stock market did not recover for three years. Once again, many thousands lost their shirts.

So what can we learn from the dot com bust?

One sector cannot lift the market forever.

• No matter how exciting a new technology may be, the general rules for valuing a stock will still apply. In the long run, earnings decide stock prices and nothing else.

• Don’t be deceived by market narratives and paradigms like the ‘new economy’.

• Even high-quality, fast-growing companies can become so overvalued, that their stock prices may not recover for many years.

global financial crisis

2008.

This is perhaps the most important year in history for any student of finance or economics.

It was the year of the global financial crisis. It was the year of the worst economic downturn since the Great Depression.

The destruction of property caused by this event around the world was immense. So much so that most people could not believe what was happening.

Millions of jobs were lost. Trillion wealth vanished as if it never existed. Derivatives in the financial markets turned a real estate slump in the US into a full-blown global recession.

Countless books have been written on the causes that led to the crisis and its consequences.

But what about the lessons we must learn?

• End all bull markets. No matter how powerful.

• The bear market that follows will be brutal.

• Derivatives trading is not for retail investors.

• The ‘caveat emptor’ holds true in investing as well. Investors should take care of themselves.

• Markets are all interconnected. A downturn in any market can trigger a chain reaction.

covid accident

2020.

It was a year that will be remembered for just one thing.

As SARS-CoV-2 spread rapidly, markets collapsed. As lockdowns became the new normal, economies seized up.

Along with consumption, global trade and investment began to creep in at a slower pace. Millions of people across the world lost their livelihood.

Within a few weeks, optimism in the markets was replaced by fear. All hope seemed lost. It looked like the 40% crash was the start of a protracted bear market.

Many financial experts were convinced that 2020 would be far worse than 2008. Now we know that things were very different.

So what can we learn from the historic 2020 market crash?

A ‘Black Swan’ incident can happen at any time.

• Markets are so volatile that a 40% crash may be a ‘normal’ event from now on.

• Don’t blindly follow the ‘experts’. They cannot predict what will happen to stock prices.

• It is always a good idea to buy high quality stocks when they are cheap.

• Don’t believe in ‘end of the world’ theories. The market will always be fine.

So there you have it. These are some lessons from the 4 big stock market crashes of our times.

We recommend that you keep these points in mind, dear reader, when you visit the market.

when The next bear market has arrived, you must be prepared.

Disclaimer: This article is for informational purposes only. This is not a stock recommendation and should not be treated as such.

This article is syndicated from Equitymaster.com