On the 90th anniversary of the Wall Street crash, what should we keep in mind specifically for ? I think one difference is that in people were gung-ho on the stock market before the crash.
Today I see there is a lot of skepticism. Some people say the reason these things happen over and over again is that people do tend to forget that they can happen. Hardly anyone working now on Wall Street remembers the crash of , and some people claim that the recent Great Recession was because there was no one around who remembered I tell people on Wall Street: study more financial history, so you can protect yourself when you realize something bad is coming.
Write to Olivia B. Waxman at olivia. Crowds gather around a statue of the first U. By Olivia B. Get our History Newsletter. Put today's news in context and see highlights from the archives. Please enter a valid email address. Homelessness was common as repossessions of homes increased. Even those with jobs faced difficulties. Women, immigrants and black Americans had no choice but to work for longer hours for reduced pay. Wages dropped to starvation level.
The average hourly wage in factories fell from 59 cents in to 44 cents in The plight of farmers, which was already distressing in the s, deepened. Prices were so low, farmers left the crops to rot in the fields and farm animals were killed instead of being taken to market.
Natural disasters compounded the problems. Big businesses and banking collapsed The crash brought financial ruin for many businessmen and financiers.
Loss of confidence in businesses The public lost confidence in the economy and hope in the future. Massive unemployment People could no longer buy consumer goods, such as cars and clothes.
The ideal information to establish whether market prices are excessively high compared to intrinsic values is to have both the prices and well-defined intrinsic values at the same moment in time. For the normal financial security, this is impossible since the intrinsic values are not objectively well defined. There are two exceptions. DeLong and Schleifer followed one path, very cleverly choosing to study closed-end mutual funds. DeLong and Schleifer state , p. Unfortunately p.
In the third quarter of p. After , some trusts revealed net asset values. Thus, DeLong and Schleifer lacked the amount and quality of information that would have allowed definite conclusions. In fact, if investors also lacked the information regarding the portfolio composition we would have to place investment trusts in a unique investment category where investment decisions were made without reliable financial statements.
If investors in the third quarter of did not know the current net asset value of investment trusts, this fact is significant. The closed-end funds were an attractive vehicle to study since the market for investment trusts in was large and growing rapidly.
But they worried about the validity of their study because funds were not selected randomly. DeLong and Schleifer had limited data pp. For example, for September there were two observations, for August there were five, and for July there were nine. Given that closed-end funds tend to sell at a discount, the positive premiums are interesting. Given the conventional perspective in that financial experts could manager money better than the person not plugged into the street, it is not surprising that some investors were willing to pay for expertise and to buy shares in investment trusts.
Thus, a premium for investment trusts does not imply the same premium for other stocks. In addition to investment trusts, intrinsic values are usually well defined for regulated public utilities. There are several reasons why a public utility can earn more or less than a fair return, but the target set by the regulatory authority is the weighted average cost of capital.
This assumes that r is the return required by the market as well as the return allowed by regulators. Thus, the present value of the equity is equal to the present rate base, and the stock price should be equal to the rate base per share. There can be time periods where the utility can earn more or less than the allowed return. The reasons for this include regulatory lag, changes in efficiency, changes in the weather, and changes in the mix and number of customers. Also, the cost of equity may be different than the allowed return because of inaccurate or incorrect or changing capital market conditions.
Thus, the stock price may differ from the book value, but one would not expect the stock price to be very much different than the book value per share for very long. There should be a tendency for the stock price to revert to the book value for a public utility supplying an essential service where there is no effective competition, and the rate commission is effectively allowing a fair return to be earned.
In , public utility stock prices were in excess of three times their book values. Consider, for example, the following measures Wigmore, , p. Sooner or later this price bubble had to break unless the regulatory authorities were to decide to allow the utilities to earn more than a fair return, or an infinite stream of greater fools existed. The decision made by the Massachusetts Public Utility Commission in October applicable to the Edison Electric Illuminating Company of Boston made clear that neither of these improbable events were going to happen see below.
The utilities bubble did burst. The growth in value for utilities during the first nine months of was more than twice that of the other two groups. The following high and low prices for for a typical set of public utilities and holding companies illustrate how severely public utility prices were hit by the crash New York Times , 1 January quotations. Picking on one segment of the market as the cause of a general break in the market is not obviously correct.
But the combination of an overpriced utility segment and investment trusts with a portion of the market that had purchased on margin appears to be a viable explanation. Thus, they were a large sector, capable of exerting a powerful influence on the overall market.
Moreover, many contemporaries pointed to the utility sector as an important force in triggering the market decline. The October 19, issue of the Commercial and Financial Chronicle identified the main depressing influences on the market to be the indications of a recession in steel and the refusal of the Massachusetts Department of Public Utilities to allow Edison Electric Illuminating Company of Boston to split its stock.
On August 2, , the New York Times reported that the Directors of the Edison Electric Illuminating Company of Boston had called a meeting of stockholders to obtain authorization for a stock split.
On Saturday October 12, p. Criticizes Dividend Policy. On October 15, the Boston City Council advised the mayor to initiate legislation for public ownership of Edison, on October 16, the Department announced it would investigate the level of rates being charged by Edison, and on October 19, it set the dates for the inquiry. On Tuesday, October 15 p. The decision is a far-reaching one and Wall Street expressed the greatest interest in what effect it will have, if any, upon commissions in other States.
Boston Edison had closed at on Friday, October 11, before the announcement was released. It dropped 61 points at its low on Monday, October 14 but closed at , a loss of 32 points.
On October 16 p. One major factor that can be identified leading to the price break for public utilities was the ruling by the Massachusetts Public Utility Commission. The only specific action was that it refused to permit Edison Electric Illuminating Company of Boston to split its stock. But the Commission made it clear it had additional messages to communicate.
For example, the Financial Times October 16, , p. There were also rumors of public ownership and a shifting of control. The next day October 17 , the Times reported p. Massachusetts was not alone in challenging the profit levels of utilities. New York Governor Franklin D. Roosevelt appointed a committee on October 8 to investigate the regulation of public utilities in the state.
The Chairman of the Public Service Commission, testifying before the Committee wanted more control over utility holding companies, especially management fees and other transfers.
In New York City Mayor Jimmy Walker was fighting the accusation of graft charges with statements that his administration would fight aggressively against rate increases, thus proving that he had not accepted bribes New York Times , October It is reasonable to conclude that the October 16 break was related to the news from Massachusetts and New York.
On October 17, the New York Times p. On Black Thursday, October 24, the market panic began. The market dropped from The declines were led by the motor stocks and public utilities. Public utilities were a very important segment of the stock market, and even more importantly, any change in public utility stock values resulted in larger changes in equity wealth.
Market price per share The public utility holding companies, in fact, were even more vulnerable to a stock price change since their ratio of price to book value averaged 4.
For simplicity, this discussion has assumed the trust held all the holding company stock. The effects shown would be reduced if the trust held only a fraction of the stock. However, this discussion has also assumed that no debt or margin was used to finance the investment. The vulnerability of the margin investor buying a trust stock that has invested in a utility is obvious.
These highly levered non-operating utilities offered an opportunity for speculation. There were also holding companies that owned holding companies e. Wigmore p. These stocks were even more volatile than the publicly owned utilities. The amount of leverage both debt and preferred stock used in the utility sector may have been enormous, but we cannot tell for certain. When the large amount of leverage is combined with the inflated prices of the public utility stock, both holding company stocks, and the investment trust the problem is even more dramatic.
Although no consensus has been reached on the causes of the stock market crash, the evidence cited above suggests that it may have been that the fear of speculation helped push the stock market to the brink of collapse. The resulting decline in stock prices weakened margin positions.
When several governmental bodies indicated that public utilities in the future were not going to be able to justify their market prices, the decreases in utility stock prices resulted in margin positions being further weakened resulting in general selling. At some stage, the selling panic started and the crash resulted. What can we learn from the crash?
Barsky, Robert B. Bradford DeLong. Bierman, Harold, Jr. Prior to , the federal government played virtually no active role in relieving the banking crisis of the s. The stock market did not have giant institutional buyers moving huge blocks of stock. Nor did it operate on a global scale, though it was deeply influenced by international events. After the crash, the banks had plenty of money to lend but no takers, the opposite of today's situation.
Deflation became the mortal enemy as people removed their cash from banks and hoarded it. A familiar pattern emerged from these events. Business and the Republican Party in the s demanded and got a "free" market unrestrained by government. The resulting disaster prompted outraged demands that Washington "do something. Later, as prosperity returned and the market began soaring, the restraints were gradually removed and the pattern of excess began anew until it collapsed once again in our own time.
With the fall comes renewed pleas for government to "do something. Finally, it is important to remember that psychology plays a huge role in financial markets. Every panic has been at bottom a crisis of confidence. So too with the economy. As Frederick Lewis Allen observed, "Prosperity is more than an economic condition; it is a state of mind. We are still fishing for the answer to that riddle. The opinions expressed in this commentary are solely those of Maury Klein.
0コメント