The Stock Market Crash: Can It Happen Again?

<v HOST>The following is a production of WPBT Miami in association with Reuters, the world's largest electronic publisher. This program is made possible by Digital Equipment Corporation. Kidder Peabody and G.E. Capital, two companies of G.E. Financial Services, and A.G. Edwards investments since 1887. [sounds of shouting] [electronic music] We must act to prevent a reocurrence of the events of October. We are looking down the barrel and the gun is still loaded. <v TRADER>I can't get out of the stock. There's no buyers. All I just keep getting hit. We already lost. [bell ringing] <v HOST 2>The Stock Market Crash: Can It Happen Again? A special report from the editorial staff of the Nightly Business Report.

<v PAUL KANGAS>Hello, I'm Paul Kangas. October 19th, 1987. A day that will live in infamy, at least as far as the investment world is concerned. And this is the scene of the crime, so to speak. The floor of the New York Stock Exchange where on that Black Monday stock prices staged their biggest one day decline ever. The Dow Jones Industrial Average, an index of 30 blue chip stocks, plummeted 509 points, losing 22,6 percent of its value on volume of 604 million shares, nearly double the previous record. And it was much the same on the other domestic stock markets. Even the overseas markets, weren't immune. As Wall Street set off a shockwave that was felt as far away as Hong Kong and Tokyo. The total amount of wealth lost on that single trading day is estimated at 1.7 trillion dollars worldwide. One year later, the effects of the crash are still being felt. And in the next half hour, we'll delve into such basic questions as why did the crash occur? Why didn't it lead to a general economic crash? And could it happen again? First, to get some idea of what led up to the events of October 19th, let's turn to correspondents Neil Cavuto in New York and Scott Gurvey in Chicago. [bell ringing] <v NEIL CAVUTO>Before you can understand what happened October 19th, ,arket watchers say look at the week before those tumultuous days that set the stage for meltdown Monday. Just ask market veteran Dudley Eppel who suspected just the day before that something was up.

<v DUDLEY EPPEL>It was my opinion, which I discussed on the golf course with my buddies that I thought the market would be down a couple hundred points. [shipping noises] <v NEIL CAVUTO>Flashback, Wednesday, October 14. News of an unexpectedly large U.S. trade deficit sent shockwaves through the financial community. First, a skid in bond prices as investors rushed to get out of equities and into debt instruments. Suddenly, yields on U.S. bonds soar into the double digits for the first time since 1985. <v RAYMOND DE VOIE, JR.>The market was ready to correct anyway. And this was just the thing that started- greased the skids, so to speak. <v NEIL CAVUTO>Thursday, October 15th, Treasury Secretary James Baker says the recent rise in interest rates is an aberration, that the economy is sound. [sounds of shouting] Neither the bond market nor stock market is convinced. Still no sense of impending disaster just yet. <v DAVID GRAYSON>The little investors somehow was not as apprehensive as the professionals. Little investor continued to feel that he wanted to participate in the market. And up until that point, the little investor has not been hurt. [factory noises]

<v NEIL CAVUTO>Friday, October 16th, the market opens with inflation, jittery announcements that the September industrial production jumped two tenths of a percent and producer prices three tenths of a percent. And options expiration day as well, the Dow slides a record 108 points, with trading volume soaring through an all time record of 388 million shares. But Wall Streeters going home that Friday the weekend mood was not upbeat. <v DUDLEY EPPEL>I knew we were in trouble. <v NEIL CAVUTO>What had you most worried? <v DUDLEY EPPEL>Uh, the, uh, heavy selling that we had on Friday and the lack of liquidity in the marketplace. <v NEIL CAVUTO>Saturday, October 17th. Baker reveals a dispute brewing between the U.S. and West Germany over interest rates. Baker hints he will let the dollar fall if Germany doesn't act to stimulate its economy. Sunday, October 18th, 8:00 p.m. New York time. A tremor in Tokyo as the Nikkei index quickly falls more than 2 percent. Reverberations shoot across the globe, bringing similar drops in Australia, Hong Kong and London. Picture one more flashback. It is dawn Monday, October 19th, a very quiet time on Wall Street. But it is a quiet anxiety. Traders are nervous. As many of them get dressed for work that particular morning, they know that it will be a very tough day ahead of them. The problem is, few know, just how tough it will really be. <v GEORGE BALL>On the 19th, I was looking forward to a squash game at 6 o'clock in the afternoon and thus was not expecting a calamity to take place.

<v NEIL CAVUTO>George Ball never got to play squash that day. Other things would keep him occupied. In New York, this is Neil Cavuto reporting. <v SCOTT GURVEY>This is Scott Gurvey. In Chicago early Monday morning, traders in the MMI pit at the Chicago Board of Trade knew stocks were falling overseas, and they knew that large sell order imbalances existed at the New York Stock Exchange. At 9:15, the MMI opened down 2.5 percent from Friday's close. A few minutes later and a few blocks away, the S&P 500 Future opened down more than 7 percent at the Chicago Mercantile Exchange. The market was in a freefall. <v JAMES PLACE>The panic button kicked down everybody. I mean, I know there were customers here who would just sell 'em. Sell 'em. I don't care. Just get 'em out. Get rid of 'em. <v SCOTT GURVEY>At 9:45 in New York, the Dow Jones Industrial Average was quoted down 21 points. But the numbers were misleading. Most of the Dow stocks did not open on time. <v THOMAS BOND>I trade IBM, and when I came in, the stock was like an hour and fifteen minutes late and opening.

<v SCOTT GURVEY>Throughout the day in which 608 million shares changed hands stock price data was greatly delayed or simply unavailable. <v JAMES LORIE>And the volume of trading became so large that the mechanisms for handling the trade proved to be inadequate. And that caused partial shutdowns in the market, delays in the flow of information, uncertainties about the other side of the market and, uh, that ignorance propagated fear, and that fear propagated further selling and further selling, propagated further selling. We had a kind of meltdown. <v SCOTT GURVEY>That made pricing stock index futures and other derivative products more guesswork than science. <v ROBERT LERNER>We don't have any idea where the book is, what's going to happen, where the opening price is, who are the buyers or the sellers. <v SCOTT GURVEY>Rapidly falling futures prices and the delays in reporting cash market prices gave the illusion of a huge discount. That triggered various portfolio insurance programs originally intended to automatically get institutional investors out of falling stocks. These computerized programs instead dumped additional millions of shares onto the market, swamping specialists and causing market makers to reduce their trading activity. Liquidity virtually dried up. Shortly after 1 o'clock, the chairman of the Securities and Exchange Commission was reported to be considering a short halt in trading. Reaction on the floor was dramatic. By 2 o'clock, the Dow had dropped below 2000. By the end of the day, the Dow was down 22.6 percent. The S&P 500 Futures down 28.6 percent. The MMI future down 24.4 percent. And theOEX option down 21 percent. For exchange executives in emergency session all day long It was far from over. The chairman of the New York Stock Exchange sought to reassure the public. Others turned to the crisis developing behind the scenes. <v LEO MELAMED>What I remember most, I think, is the evening. The fact that I ate in the building, in the clearing house and stayed the whole night in the clearing house, waiting for the various banks to forward the funds representing 2.5 billion dollars of value change that had occurred that day. That's a historical high we will never meet again.

<v SCOTT GURVEY>In the days following the crash, many in New York and Washington pointed accusing fingers at Chicago. But in fact, program trading amounted to only 7 percent of the total volume that day. In Chicago, this is Scott Gurvey reporting. <v PAUL KANGAS>After the crash, many official studies were commissioned to figure out just why the bottom fell out of stock prices. But even these blue ribbon panels were unable to agree on an explanation. And even today, the experts have different opinions. <v SENATOR WILLIAM PROXMIRE>Well, the cause of the crash was that the stocks were simply overpriced. We had a situation where they were selling it 23 times earnings. That's ridiculous. That's absurd. Whenever they- 23 times earnings, that's a good time to get out of the market. And the assumption was that this thing was going to go on forever. <v DAVID RUDER>We had a- an overbought- bought market, a series of economic factors which coalesced over the weekend and a combination of institutional selling, in some sense exacerbated by portfolio strategies. These things all came together to compress the market and have us put a correction into a- into a small period of time.

<v JOSEPH HARDIMAN>There was increasing uncertainty as to what was going to happen with interest rates, the economy, and also how Congress was going to attack the budget deficit. And at that stage in the game, a very large trade deficit. So there were a lot of fundamental factors that were causing a lot of uncertainty among the investors. <v LEO MELAMED>The situation at that time last year was that prices in the stock market had been so out of line with reality and expectations, normal parameters of economic value that it just was a situation waiting to happen. <v JOHN PHELAN>I think the major reason for it was- it was a constant quest of institutions to hedge and find that perfect hedge in the future and that this hedge didn't work as well as they thought this time, particularly through portfolio insurance.

<v LOUIS LOWENSTEIN>The most important thing that happened to cause the crash was that prices were on a speculative bubble, and something was going to prick that bubble. You never know ahead of time just what the pin is going to be, but something will come along. Bubbles don't last whether at children's birthday parties or down on Wall Street. <v PAUL KANGAS>Regardless of what did or didn't cause the crash of '87, in the weeks following the crash, it was widely expected that the downturn in stocks would lead to a decline or even collapse of the general economy. But unlike 1929, that didn't happen. In fact, within six months, the concern instead was of an overheating economy. To help us determine why Main Street emerged relatively unscathed from the events on Wall Street, Linda O'Bryon talked with two leading economists. <v LINDA O'BRYON>Thank you, Paul. With me are Arthur Laffer, one of the leading economists of the Supply Side School, and Robert Reich of the Kennedy School of Government at Harvard University. Gentlemen, why didn't the stock market crash lead to an economic collapse? Arthur Laffer.

<v ARTHUR LAFFER>Basically, stock markets tell us what people think will be not what has been, and what they were seeing at that time last October 19th and before was the end of an era, was the end of a Reagan administration, and a movement into a great deal of uncertainty. And stock market crashes don't cause recessions. They reflect what people expect the future to be. <v LINDA O'BRYON>Robert Reich, do you agree with that? <v ROBERT REICH>Well, not entirely. When you have over a quarter of corporate America's value suddenly taken out of the system, you can expect a drop in purchasing power, at least under normal circumstances. Here, however, foreigners picked up a lot of the slack, dollar very low, exports up. But also it turns out that most Americans don't own stock directly, and the wealthy Americans who do, well they had enjoyed the run up very quickly in stock prices. The sudden run down didn't bother them very much. And so hence not very much reduction in purchasing power. <v LINDA O'BRYON>How significant was the role of the Federal Reserve immediately after the crash?

<v ARTHUR LAFFER>Well, the Federal Reserve could have done a lot of damage. I don't think they did that damage. I think they liquified the system fairly well. But I think the Federal Reserve should have been even tighter in the past year and kept interest rates even lower. <v LINDA O'BRYON>Professor Reich? <v ROBERT REICH>Well, I think the Federal Reserve did a very good job. There's always the possibility immediately after a crash, or after any disruption of that magnitude, of panic. And the Federal Reserve Board pushed a lot of money immediately into the system, gave a strong signal that the Federal Reserve Board would be there for the average investor, the average individual. That was a positive step. <v LINDA O'BRYON>Many interpreted the crash as a warning that federal ballooning deficits were getting out of hand. And in fact, there was a two year pact to reduce the deficit that was forged shortly after the crash. If it was a warning, was it a blessing in disguise? <v ARTHUR LAFFER>I don't think it was a blessing in disguise whatsoever. And I think the pact that was done wasn't very meaningful at all. The real change in the stock market reflects what people think politicians are going to do. And I'm always afraid that when they act under a panic situation, they will invariably do the wrong thing. <v LINDA O'BRYON>Robert Reich?

<v ROBERT REICH>It was a token effort. Congress and the president did get together a little bit. It focused the public's attention on the budget deficit for four or five weeks, but not enough, not long enough. We still have a yawning budget deficit. We still have an enormous fragility. All told, with regard to overleverage in the United States, corporations, individuals and not enough attention is being paid to that real problem. <v LINDA O'BRYON>Are the same factors still in place that could lead to another stock market crash? <v ARTHUR LAFFER>Yes. I mean, obviously, stock market crashes project what people think politicians will do. And if those politicians are going to raise taxes in the future, you'll get a big crash again. Believe me, you will. <v LINDA O'BRYON>Robert Reich? <v ROBERT REICH>Well, small investors are still scared away from the market. They know something that we all know, and that is if it happened once, it could happen again. We don't know why it happened. It's like any speculative bubble. But once we know that speculative bubbles form and they suddenly pop. Well, anybody- anybody watching can say, 'Who knows?' A crash may be just around the corner. <v LINDA O'BRYON>Gentlemen, thank you. We've been speaking with Robert Reich and Arthur Laffer.

<v PAUL KANGAS>While the crash on Wall Street may not have had much of an impact on Main Street USA, it was a different story on other financial markets around the world, many of which fell like dominoes just following New York's close on Black Monday. To see how those markets fared them, and since the crash, we have reports from Reuters correspondents in Tokyo, Hong Kong and London. <v PHIL BRADSHAW>In the aftermath of Black Monday, Japanese investors took their cue from New York and dumped stocks, but the damage here was relatively mild. The Nikkei index closed only 15 percent of its value, and within six months, the Nikkei had bounced back to surpass its pre-crash peak of 27,000. Some analysts warn that a correction may be in store, but most say the Nikkei is destined to set new records. That's because Japanese investors have no real alternatives to Japanese stocks. <v NOBUYOSHI KOBAYASHI>The Japanese investors are highly liquid at the moment. This market cannot go anywhere but upward. <v PHIL BRADSHAW>Most experts here agree that no matter what happens on other stock markets, Tokyo has proved that it's big enough and rich enough to survive better than most. In Tokyo, this is Phil Bradshaw of Reuters in Hong Kong. <v JOHN PARKER>This is John Parker of Reuters. The old wind that swept Wall Street struck the smaller Hong Kong market like a typhoon. After an 11 percent fall on Black Monday, exchange boss Ronald Li battened down the hatches and closed the exchange for four days. Investors cried foul, but Li was defiant.

<v RONALD LI>[sounds of camera clicking] I have committed nothing against the law. <v JOHN PARKER>When the market reopened, Black Monday became even blacker Monday, but a further plunge of 33 percent. Ronald Li has since been charged with corruption. The market now seems trapped in the doldrums, about 35 percent below its peak. Many brokers are not optimistic about the future. <v MARC FABER>I think the market, not only here in Hong Kong but worldwide, is telling us about something stinks in the world's economy. <v GERALD CLARKSON>In London, this is Gerald Clarkson of Reuters. Last October, the London stock market collapsed by about 33 percent. Since then analysts say, London has been one of the worst performing major markets for two reasons. <v KEVIN GARDINER>Well, there are two problems in the UK economy, which other economies don't seem to have at the moment. These are inflation and the balance of payments. Worries on both of these scores seem to have held back the equity markets through the year. [sounds of conversation] <v GERALD CLARKSON>London has gained back some 15 percent from its low point since the crash. And market strategies see a generally recovering trend ahead.

<v ALASTAIR ROSS GOOBEY>Moderately bullish, um, we're not gung ho bulls. We don't think we're not going to shoot the lights out. But we think that you'll make 15- 20 percent returns in UK equities over the next 12 months. <v GERALD CLARKSON>Nevertheless, share trading volumes remain slow, and while a number of brokers are nowt more bullish, the volume of trade is likely to stay slack. In London, this is Gerald Clarkson of Reuters. <v PAUL KANGAS>So if there was one thing that the crash of '87 did point out, it was that the financial markets worldwide were now more interlinked than ever before and perhaps more vulnerable than anyone had thought. So in the aftermath of the crash, the focus of activity shifted to Washington, where the market regulators considered how to prevent another market meltdown. Washington correspondent Bob Friedman reports on what's been done in the effort to make the markets safer. <v BOB FRIEDMAN>In the aftermath of the crash, government agencies and commissions issued thousands of pages in post mortems on the market break. [sounds of muffled conversation] Most agreed that action had to be taken to prevent a collapse in one market from taking other markets down with it. To deal with that issue, the Reagan appointed Brady Commission proposed circuit breakers. They are predetermined price limits that would trigger temporary trading halt. In theory, they would give investors time to stop, look and listen. But opponents of the circuit breakers respond that they will not halt market volatility. <v JOSEPH HARDIMAN>Markets also tend to be their most volatile on openings or reopenings. So in terms of curbing volatility, it's unlikely that closing the market and then having to reopen it is going to reduce volatility.

<v BOB FRIEDMAN>Nonetheless, the exchanges under pressure from Washington have agreed to the idea of circuit breakers, but at levels most believe will never be reached. [conversation of NASD secretary answering a phone call] A number of studies, including one by the Securities and Exchange Commission, blame the exchanges inability to handle heavy trading volume for accelerating the crash. So in the past year, the over-the-counter market and other exchanges have worked with regulators to improve communications and technical capabilities. But SEC Chairman David Ruder is quick to point out that the markets are not crash proof. <v DAVID RUDER>Yes, I think we could have another crash, but it would require a combination of factors somewhat similar to the ones we had before- an overbought market, institutional decisions to sell at the same time, and some bad- coupled with something bad in the news. <v BOB FRIEDMAN>And there were still plenty of bad news out there warned Senate Banking Committee chairman, William Proxmire. He, too, believes another crash is possible.

<v SENATOR WILLIAM PROXMIRE>It could happen again because the debt is so terrific in this economy. People are focused so much on the federal government debt. What is worse is the household debt and especially the business debt. <v BOB FRIEDMAN>Proxmire and others in Congress set out quickly after the crash to put some restraints back into the system. But because the crash has not been repeated and the economy has not slipped into a recession following the crash as some forecast, the market regulation proposals of the last year are not likely to be high priorities for the next Congress and a new president. In Washington, I'm bob Friedman reporting. <v PAUL KANGAS>One casualty of the crash has been investor confidence, especially among small investors. And there are those who say it could take years for investor confidence to return to pre-crash levels. And to find out where investor confidence stands now, one year later, we have the Albert Sindlinger organization conduct a special poll for this program. Dean Shepherd has the results of that survey. Dean? <v DEAN SHEPHERD>Thank you, Paul. Between September 20th and October 10th, Sindlinger and Company conducted telephone interviews with a random sample of 2,302 persons in 48 states. Of those questioned, 25 percent indicated that they own stock or shares in a mutual fund, down from about 36 percent a year earlier. And even among those who still own stock, a sense of nervousness clearly prevailed. Asked whether they expected the future value of their stock to be up or down, 67 percent said they expected their portfolios to decline in value. The most negative showing in the 34 years since Sindlinger has been taking such polls. And asked whether they plan to buy more stock, only 4 percent indicated plans to buy in the next few weeks, close to a 34 year low. Among those who said they have no plans to buy stock, the reason most cited was that the market is to casino like volatile, and 30 percent said they preferred to keep their savings in safer investments. And while 85 percent of non stockholders said they have no plans to jump in the market, a sizable number said they would become shareholders when all programmed trading and market manipulation is eliminated. Others said they were waiting for the presidential election or simply for lower stock prices. We'd like to thank Sindlinger and Company of Wallingford, Pennsylvania, for making this special tabulation available to us. Paul.

<v PAUL KANGAS>The decline in investor confidence over the past year has dealt a major blow to those who deal in stock trading. On the New York Stock Exchange, volume has declined by some 18 percent, leading Wall Street firms to lay off thousands. I talked recently with New York Stock Exchange Chairman John Phelan and asked him what the exchange is doing to restore investor confidence.

<v JOHN PHELAN>We can't really do anything to restore conf- confidence in the market, because the market really is whether people think it is an investment opportunity or not. And I think once they perceive there is, it will come back again. We have done a number of things to try to strengthen the markets over time. And one of those is for individuals to give an express routing system so that once the Dow fluctuates up and down 25 points, they're put on the express lane. And no matter what the delays are, they get in there before the other people. Secondly, we've put in a whole bunch of circuit breakers working with the Chicago Mercantile Exchange. <v PAUL KANGAS>One of the, uh, very severe criticisms that the New York Stock Exchange came under was the specialist system. There were reports that the specialists did not keep an orderly market, did not buy when they should have been buying, but instead, were sellers just out of sheer panic. How do you react to that? <v JOHN PHELAN>I think if you looked at the reports, particularly the Brady report and the S.E.C. report on that, you'd come to the conclusion that most markets should have specialists rather than not have them. Given all of the markets in the world except for the Japanese market, the dealer system on this market did better than any of them.

<v PAUL KANGAS>And yet these small investors still has that idea that he's being dealt from from a loaded deck. What more can be done to establish confidence? Uh, for instance, there was a suggestion that you open the specialists book to the public to let 'em know, to let the public know what the specialist has in the way of orders on his book above and below the market. <v JOHN PHELAN>I don't have any problem with that. And that, in fact, we're going to do that in 1989. But I really- really the investor confidence wasn't shaken by what was or was not on the book. The investor confidence was shaken one by too much member firm trading in the market and too much institutional short term trading. And until they're convinced that both of those elements are under control again and not creating abnormal volatility in the market, I still think they will remain very nervous of it no matter what else we do. But we should do some other things. <v PAUL KANGAS>You to your great credit, and I think that the press certainly complimented you to the fact, decided to open the market on October 20th when there was some question about whether the liquidity would be lost. You went for the opening.

<v JOHN PHELAN>Right and we went for the trading on the 19th as well. [Paul Kangas: Right] And I think that was the right thing to do. And we would certainly do it again. <v PAUL KANGAS>What thoughts were running through your mind at the end of the day, October 19th? <v JOHN PHELAN>Well, I think I remember looking at the screen number one and shaking my head and said 500 points. I mean, you know, even- even for someone who had talked about meltdowns that was a meltdown's meltdown. <v PAUL KANGAS>I'd like you to address the question that we're addressing in this very program. The stock market crash of '87. Can it happen again? <v JOHN PHELAN>The answer is certainly yes, but will it happen? I think that- that's something. It's not very likely to have another major financial crisis in equities in the near term because all the speculative excesses have been wrung out of markets. <v PAUL KANGAS>Mr. Phelan, thanks very much for being with us. [John Phelan: Thanks very much] <v PAUL KANGAS>The events of October 19th, 1987 remind us that stocks themselves have no minimum price and they are merely worth as much as a buyer is willing to pay for them. Take away the buyers and even the best stocks effectively become just pieces of paper that might as well be priced at almost 0. But until 1 year ago, the conventional wisdom was that the bottom couldn't fall out. That reforms put up in the wake of the 1929 crash would enable the markets to withstand even the biggest jolts. Now we know that those safeguards may not be enough to withstand such recent developments as computerized trading, $600 million share days or portfolio insurance. For many investors, that's reason enough to get out of the market and stay out. However, Wall Street remains the center of this nation's system of capital formation. So bad times on Wall Street ultimately will hurt Main Street by limiting business expansion and job creation. For that reason, it's in everyone's interest that action be taken to ensure that Black Monday doesn't recur, at least for another fifty eight years. I'm Paul Kangas. Good night.

<v HOST>This program was made possible by Digital Equipment Corporation, Kidder Peabody, and G.E. Capital, two companies of G.E. Financial Services, and A.G. Edwards investments since 1887.

<v MARC FABER>I think the market, not only here in Hong Kong, but worldwide, is telling us about something stinks in the world's economy. <v PRESIDENT RONALD REAGAN>Let me say without reservation, that I see no reason to believe that the market drop should drag our country into recession because the adjustment still leaves us with a market almost twice the size of when our economic expansion began. <v SPEAKER>I can't get out of the stock. There's no buyers. All I- I just keep getting hit. <v HOST>Reuters, the world's largest electronic publisher, provides a nightly business report with news market data and communications services worldwide.