Study: what happens next when the stock market crashes


The U.S. stock market (S&P 500) crashed 4.1% on Monday. These one day crashes are rare. Here’s what happens historically to the stock market when it crashes more than 4% on one single day (CLOSE vs CLOSE).
Here are the historical cases.

  1. February 5, 2018 (present case).
  2. August 4, 2011
  3. August 31, 1998
  4. October 27, 1997
  5. October 13, 1989
  6. October 16, 1987
  7. September 9, 1986
  8. May 28, 1962
  9. September 26, 1955
  10. June 26, 1950

*We exclude bear market cases. The Medium-Long Term Model states that this is still a bull market.
Here are the historical cases in detail.

August 4, 2011

This signal came out in the middle of the S&P’s 21.5% “significant correction”. The stock market was 3 days away from making a bottom.

August 31, 1998

This signal came out towards the end of the S&P’s 22.4% “significant correction”. The stock market made a marginal low the next day, a big bounce, and then a marginal new low 2 months later.

October 27, 1997

The S&P made a marginal new low the next day, which marked the bottom of the 13% “small correction”.

October 13, 1989

The S&P made a marginal new low the next day. That was the bottom of the S&P’s 9.2% “small correction”.

October 16, 1987

The S&P crashed the next day (October 19, 1987). Then it made a marginal new low on October 20, which was the bottom of the S&P’s 35% “significant correction”. Luckily our model bought on the close of October 19 and was not crushed by this massive “significant correction”.

September 9, 1986

This was extremely close to the bottom of the S&P’s 10.2% “small correction”. The S&P made a marginal new low over the next few days.

May 28, 1962

The S&P made a marginal low the next day, a big 1 day bounce, and a marginal new low 1 month later. That was the bottom of the S&P’s 29.3% “significant correction”.

September 26, 1955

This signal came out in the middle of the S&P’s 10.5 “small correction”.

June 26, 1950

This signal came out in the middle of the S&P’s 14% “small correction”.

Conclusion

  1. Some of these crashes happened in the middle of a “significant correction”. Some of these crashes happened in the middle of a “small correction”.
  2. The stock market AT LEAST made a 1 day marginal new low after each of these crashes. In the present case, the stock market already made a marginal new low on Tuesday September 6.
  3. With the exception of 1987, the stock market’s medium term risk:reward profile was bullish. That’s why NOW is the time to buy stocks. The downside risk is limited.

The Medium-Long Term Model does not foresee a significant correction right now. But let’s assume the model is wrong. Let’s assume that this small correction will turn into a “significant correction”. If that happens, then this is still a good time to buy from a medium term risk:reward perspective. For example, the stock market continued to crash for a few days after August 4, 2011. Any losses were quickly erased within 2 weeks.
Read Stocks on February 7, 2018: outlook

7 comments add yours

  1. Funny how the data so often hope a different perspective than the media, Twitter, folks at the office, and what not. Once again, thanks for sharing your insight.

  2. I am planning to split my fund. I am trying to decide my entry point as follows. What is your opinion?
    1st entry – drop 8% – 30% (already did)
    2nd entry, another 4% from previous low – 50%
    3rd entry – another 4% from previous low – remaining 20%
    I think I should contribute most of my fund in the 2nd drop because there may never be a 3rd.

    • I agree that there probably won’t be a 3rd drop. The market either has already made its low or the low isn’t very far away.

  3. Troy,
    1) the regular spx chart does not show the data on how the Es futures went down to 2529 the night after Monday’s Dow close of -1100 points
    2) the Thursday or Friday before (black Monday 1987) the s&p closed below the 200dma. Which technically was the signal Paul Tudor jones used to get balls to the wall short on the weekend before black Monday . Es futures happened to “touch” the 200dma @ 2529. Then quickly bounced off it without closing below it. Looks like the algos brought it right to the 200dma on the daily chart

    • Markets tend to get crushed on Monday after falling Thursday-Friday. I don’t want to sound like a smart ass, but I think Paul Tudor Jones has lost “it”. His fund has underperformed the S&P for years.

  4. Troy,
    Also interesting to note that brexit and the trump victory was also where the Es futures hit the 200dma then quickly bounced off on the daily chart. And never looked back

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