What can we learn from past financial corrections?
Investors tend to have short memories. You likely remember that the U.S. stock market performed poorly in 2022 (the S&P 500 was down more than 18%), but do you recall that the S&P 500 increased over 26% in 2021? Let’s take a stroll down memory lane.
PANIC DUE TO THE COVID-19 PANDEMIC: A significant downturn began in late February 2020 at the beginning of the COVID-19 pandemic when the S&P 500 declined 34%. Most investors do not remember this drop for two reasons. First, we were distracted by the fear and horror of the pandemic, and, second, the stock market recovered fully and rapidly by July 2020.
THE 2008 GREAT RECESSION: The last major correction that most investors remember was 15 years ago. During the 2008 Great Recession, the S&P 500 declined 52%. In hindsight, the recession began in November 2007, but the major downslide started on Monday morning, September 15, 2008. On that date, we learned that Merrill Lynch had been sold to Bank of America the prior weekend and Lehman Brothers was declaring bankruptcy. Within a few weeks, the government bailed out AIG when it failed, Washington Mutual was seized by the U.S. Treasury (and later sold to J.P. Morgan Chase) and Wachovia Bank was sold to Wells Fargo. On October 3, 2008, the U.S. Congress approved a $700 billion bailout program, TARP (Troubled Asset Relief Program), which was provided to many investment firms and banks.
DOT-COM BUBBLE: Perhaps you recall the “dot-com bubble” in 2000 when the technology sector plummeted 78%.
BLACK MONDAY: Or “Black Monday” on October 19, 1987, when the stock market plummeted 20% in one day.
THE GREAT DEPRESSION: Although there were several economic corrections in the 1900s, the Great Depression (which began in October 1929) was the most devastating. A fascinating book titled “The Great Depression: A Diary” compiles the diary of Benjamin Roth, a small-town attorney in Youngstown, Ohio. Born in 1894, Roth kept a diary from 1931 through 1941 detailing the events during the depression, including bank closures, home foreclosures, unemployment and extreme poverty.
The book is filled with wisdom and Benjamin Roth was selfeducated as an economist in addition to being an attorney. He states: “In 1933, more than 40% of home mortgages were in default.” He also reports on stock prices, such as Phillips Morris Tobacco Co., which fluctuated from 50 cents to $90 between 1932 and 1936, and U.S. Steel, which fluctuated from $250 to $25 between 1929 and 1932.
The introduction to the book was written by James Ledbetter (a financial editor for Slate.com and former senior editor of Time magazine). Ledbetter discusses world events at that time and the panic many Americans felt, fearful that the democracy and freedom they enjoyed could be lost. Ledbetter states:
“Germany had elected a Nazi government in 1933, largely in response to years of an imploded economy. Japan and Italy were being run by Fascists, and Stalin was in the process of turning the Soviet Union into a ruthless dictatorship.”
Considering the current state of U.S. and world affairs, we need to pay attention to the events of the Great Depression. We have much to learn.
Dozens of federal programs (the New Deal) were enacted during Franklin Roosevelt’s administration beginning in 1933, including the Federal Deposit Insurance Corporation (to insure personal bank accounts), the Civilian Conservation Corps (to give jobs to unemployed, unskilled young men), Social Security (to provide retirement pensions and unemployment insurance), and the Securities and Exchange Commission (to regulate stock trading in public corporations).
Many thought the depression was over in 1935, but another collapse occurred in September 1937. According to Ledbetter: “The 1929 high in the Dow Jones Industrial Average of 381.17 would not be reached again for another quarter century.”
THE TAKEAWAYS: We should not take our democracy and our freedom for granted. We need to work hard to maintain them.
We should not assume we will recover quickly from the next economic downturn. In recent years, we have been spoiled by rapid recoveries, but this was likely stoked by the Federal Reserve keeping interest rates unreasonably low from 2008 through 2021. The Federal Reserve is currently raising interest rates in an attempt to reduce inflation.
We should acknowledge that many factors that may lead to a significant economic downturn are beyond our control. However, we can be proactive, keep our financial house in order, invest conservatively and keep our emergency funds available. We can save diligently and live within our means.
Benjamin Roth shares his perspective throughout his diary. He believed that we can study past depressions to learn about future depressions. He stated:
“History will repeat itself, and the chart of the old depression will foretell pretty accurately the course of the new. You will be told that this new depression is different because of government control, etc., but, as long as human nature is the same and people like to speculate, it is probable that, in the future, economic booms and depressions will come and go, as in the past. I have little faith that government can eliminate or control the economic cycle.”
It is possible that we will avoid repeating history and we may enjoy a robust economy for many years. However, there will likely be an economic correction at some point. Although we don’t know when — or how severe — it will be, we can still prepare. After all, living within our means is always wise.
Donna Skeels Cygan, CFP®, MBA is the author of The Joy of Financial Security. She owned a fee-only financial planning firm in Albuquerque for over 20 years before retiring recently. She welcomes emails from readers at donna@donnaskeelscygan. com. Prior columns are available at abqjournal.com or donnaskeelscygan. com/insights/.