The Great Depression (1929)

A string of terrible days led to a more than 40% drop in the market from the beginning of September 1929 to the end of October 1929. In fact, the market continued to decline until July 1932 when it bottomed out, down nearly 90% from its 1929 highs.

American Made Prosperity
Despite the Florida crash, Americans were as bullish as ever. The stock market was guaranteed to make everyone rich, as the first world war had been won, and industrialization was resulting in previously-unimaginable luxuries. It was a good time to be American.

Since the stock market was believed to be a no-risk, no-brain world where everything went up, many people poured all their savings into it without learning about the system or the underlying companies. With the flood of uneducated investors, the market was ripe for some manipulation and swindling. Investment bankers, brokers, traders, and sometimes owners banded together to manipulate stock prices and get out with gains. They did this by subtly acquiring large chunks of stock between them and trading them between each other for slightly more each time. When the public noticed the progression of price on the ticker tape, everyone would buy the stock. So, the market manipulators would then sell off their overpriced shares for a healthy profit. On and on the cycle went as uneducated investors turned a profit by selling the manipulated, over-priced shares to someone who wanted to have a rising stock.

The Wisdom(?) of the Crowd
Behavioral finance shows that the less an investor knows, the easier it is for him or her to be swept up in popular opinion (herd mentality). This behavior is a double-edged sword because the ignorant investors are also easily spooked into panic. Both actions, joining and fleeing, have very little basis in the quality of the news or the quality of the market. Instead, the herd follows the cow that runs the fastest, trampling the market.

During the craze before the Great Depression a number of academics, including Roger Babson, were predicting a crash if things didn’t calm the hell down. Sadly, for every Roger Babson, there were four bull-blinded academics guaranteeing the eternal rapid growth of the American stock market. Although Babson had been predicting the crash for years, the investors finally listened.

The Fallout
October 24 and 25 were the black days – Black Thursday and Black Friday – that started the furious panic selling that would see 13 million shares traded. A network of wealthy investors bought up large chunks of shares to try and hold the market up, or at least slow the decent to keep the banking system solvent. As many banks had accepted stock and borrowed stock for margin trading, the sharp dips were threatening the whole financial system. Despite the efforts of Wall Street financiers, the selling resumed on Black Monday and banks started to buckle and then fail.

On the worst day of the crash, the Dow shed 13%, but it was less the shocks of a particular day than the hole that the crash punched in the financial system. The crash led to a recession that led to a depression, during which the Dow fell 89% from the pre-crash high. The twelve-year worldwide depression came and ended only with the declaration of war. This stands as the worst financial blow to the USA ever, although there is now more of a debate around whether the Mortgage Meltdown and Global Financial Crisis cut deeper worldwide and destroyed more wealth despite being shorter in duration. The 1929 crash itself, though large in its own right, was nothing compared to the ensuing graveyard market and devastating depression.