Tài liệu Review of Accounting and Finance Volume 8 ppt

Review of Accounting

and Finance

The 1987 market crash: 20 years

later

Guest Editors: G. Glenn Baigent and

Vincent G. Massaro

Volume 8 Number 2 2009

ISSN 1475-7702

www.emeraldinsight.com

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Access this journal online _______________________________ 119

Editorial advisory board _________________________________ 120

Introduction: the 1987 market crash:

20 years later _____________________________________ 121

What caused the 1987 stock market crash and

lessons for the 2008 crash

Ryan McKeon and Jeffry Netter____________________________________ 123

Has the 1987 crash changed the psyche

of the stock market? The evidence from

initial public offerings

James Ang and Carol Boyer_______________________________________ 138

Capital market developments in the

post-October 1987 period:

a Canadian perspective

Laurence Booth and Sean Cleary___________________________________ 155

Review of Accounting and

Finance

The 1987 market crash: 20 years later

Guest Editors

G. Glenn Baigent and Vincent G. Massaro

ISSN 1475-7702

Volume 8

Number 2

2009

CONTENTS

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Revisiting derivative securities and the 1987 market

crash: lessons for 2009

G. Glenn Baigent and Vincent G. Massaro ___________________________ 176

Fraudulent financial reporting, corporate governance

and ethics: 1987-2007

Lawrence P. Kalbers _____________________________________________ 187

CONTENTS

continued

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Review of Accounting and Finance

Vol. 8 No. 2, 2009

p. 120

# Emerald Group Publishing Limited

1475-7702

EDITORIAL ADVISORY BOARD

Ali Abdolmohammadi

Bentley College, USA

Pervaiz Alam

Kent State University, USA

Sharad Asthana

University of Texas at San Antonio, USA

Tim Cairney

Georgia Southern University, USA

Hsihui Chang

Drexel University, USA

Rong-Ruey Duh

National Taiwan University, Taiwan

Mahmud Ezzamel

Cardiff University, UK

Ehsan Feroz

University of Washington, Tacoma, USA

Liming Guan

University of Hawaii at Manoa, USA

Mahendra Gujarathi

Bentley College, USA

William Hopwood

Florida Atlantic University, USA

Marion Hutchinson

Queensland University of Technology, Australia

George Iatridis

University of Thessaly, Greece

Hoje Jo

Santa Clara University, USA

Laurie Krigman

Babson College, USA

Krishna Kumar

George Washington University, USA

Marc LeClere

Valparaiso University, USA

Joseph McCarthy

Bryant University, USA

Gordian Ndubizu

Drexel University, USA

Hector Perera

Macquarie University, Australia

Alan Reinstein

Wayne State University, USA

Herve´ Stolowy

Group HEC (Hautes Etudes Com), France

Nikhil Varaiya

San Diego State University, USA

Huai Zhang

Nanyang Technological University, Singapore

Introduction

121

Review of Accounting and Finance

Vol. 8 No. 2, 2009

pp. 121-122

# Emerald Group Publishing Limited

1475-7702

Introduction: the 1987 market

crash: 20 years later

Society relies on well-functioning capital markets to promote economic progress in

businesses and households. To that goal, academics argue that capital markets should

provide for price discovery and liquidity, where the best way to find out what an asset

is worth is to attempt to sell it. As long as there are a large number of market

participants, bidding among them leads to price discovery, and an asset is sold quickly

resulting in liquidity. Moreover, in a well functioning market the price should be close to

its intrinsic value. But academic assumptions aside, is it not the case that institutional

and private investors have the same expectations of our secondary markets?

For both institutional and private investors, capital markets are the domicile of our

wealth. Capital markets reflect the performance of individual firms and the investment

choices they make on behalf of shareholders. Markets reflect the value of retirement

accounts such as 401 ks, 403 bs, or RRSPs in Canada. On a macro scale, capital markets

are an indicator of the expectations of future earnings. The well-being of capital

markets is of critical importance to all, even the US Treasury Department and Social

Security.

Having turned the generational clock in 2007, it seemed appropriate to revisit the

events of 1987. The literature seemed to be mixed as to the cause of the 1987 crash, new

streams of literature such as behavioral finance have evolved, and many structural

changes have occurred. Ironically, while all of the article reviews for this issue were in

progress, the factors which cause market crashes or corrections became more

important because we were witnessing a capital markets crisis in 2008. In most cases

the authors had the difficulty of drawing their analyses to a close because each day

there was more to add to the literature. But here we are, and we must conclude. There is

a confluence to the articles in this edition – each in some way speaks to the issue of

efficient capital markets.

McKeon and Netter have provided an extension to earlier work by Mitchell and

Netter (1989). The current research reinforces the view (espoused in the 1989 paper)

that relevant news caused the market crash in 1987, but they find that significant

changes in market movements and volatility are associated with the market correction

in 2008.

The ‘‘something is different now’’ theme is continued by Booth and Cleary. They

report that significant structural changes have occurred in the Canadian economy

since 1987. Their analysis documents macroeconomic changes and speaks to the

impact of fiscal policy and monetary policy on the resilience of the Canadian economy,

which they describe as more resilient today than in 1987.

Ang and Boyer examine an issue that was critical in 1987 – IPOs. They show that

the 1987 market crash changed the psyche of the IPO market as evidenced by fewer

IPOs from riskier firms. Following the crash, they find more rational pricing in the

context of smaller discounts and smaller mean reversion. Clearly, this speaks to a

behavioral component in asset prices. Let’s hope that the current crisis leads to more

rational pricing.

The behavior of investors is continued by Baigent and Massaro who suggest that

the existence of portfolio insurance can create more aggressive trading and a moral

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hazard problem. Lending relevance to the 2008 crisis, the notional value of derivative

securities has increased from $1T in 1987 to $542T, about 37 times the GDP of the USA

The findings suggest that researchers re-examine the role of derivative securities,

especially since there seems to be a symbiotic relationship between derivative and

asset prices instead of one being causal.

Lastly, there have been significant regulatory changes in the capital markets since

1987 as documented by Kalbers. To the point, regulations are intended to provide for

more accurate accounting information, but Kalbers opines that regulation occurs after

the damage has occurred.

In the mid 1960s Eugene Fama formulated the efficient market hypothesis in which

markets reflect all relevant information. The problem seems to be the information, not

the markets.

G. Glenn Baigent and Vincent G. Massaro

Guest Editors

What caused the

1987 stock

market crash

123

Review of Accounting and Finance

Vol. 8 No. 2, 2009

pp. 123-137

# Emerald Group Publishing Limited

1475-7702

DOI 10.1108/14757700910959475

What caused the 1987 stock

market crash and lessons for the

2008 crash

Ryan McKeon

School of Business Administration, University of San Diego, San Diego,

California, USA, and

Jeffry Netter

Terry College of Business, University of Georgia, Athens, Georgia, USA

Abstract

Purpose The purpose of this paper is to review an explanation for the causes of the stock market

crash in 1987, update the empirical support for that argument, and compare to recent market

developments.

Design/methodology/approach While the market crash on October 19, 1987 was the largest

one-day S&P 500 drop in percentage terms in history (20.47 percent) there was also a large market

drop (10.12 percent) in the three trading days before the 1987 crash. Previous research has shown

show that the three-day decline was the largest in more than 40 years, large enough that the drop was

news itself (the October 16, 1987 drop immediately before the crash was also an extremely large one￾day decline). The theoretical model of Jacklin et al. show how a surprise significant drop in the

market could have provided information to the market that could directly lead to an immediate crash.

Findings The paper follows the stock market for 20 years after 1987, and finds the magnitude of

the market decline immediately preceding October 19, 1987 was still a significant outlier only one

three-day period in the 20 years after 1987 had as large a market decline. The paper documents the

large market movements and volatility in the period beginning in fall 2008 and suggests that this

‘‘crash’’ is different than what occurred in 1987.

Research limitations/implications This paper’s main limitations lie in the implications drawn

about the causes of the 2008 crash.

Practical implications This paper provides evidence on the causes of the 1987 crash and

implications for the 2008 decline. The 1987 crash was due in part to characteristics news but also to the

market and trading strategy, the 2008 ‘‘crash’’ is more likely a response to fundamental economic news.

Originality/value This paper uses empirical evidence since 1987 to look back on the causes of the

1987 crash.

Keywords Stock markets, Stock prices, Take-overs, Regulation, Financial modelling,

United States of America

Paper type Research paper

The cover story from the Newsweek (1987) issue that was released the weekend directly before

the October 19, 1987 crash was titled ‘‘Is the party over?’’ The second paragraph of the article

starts, ‘‘The cascading Dow and record trading volume marked a major shift in psychology

and sent a powerful shiver across the country’’ (Dentzer, et al., 1987).

1. Introduction

On Monday October 19, 1987, the US equity market suffered its largest single-day

percentage decline in history. The S&P 500 index fell by 57.86 points, a decline of 20.46

The current issue and full text archive of this journal is available at

www.emeraldinsight.com/1475-7702.htm

The authors would like to thank Glenn Baigent, Annette Poulsen, Janis Zaima, and a referee for

helpful comments and suggestions on the paper.

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percent. The Dow Jones Industrial average suffered a similar decline, falling by 508

points, 22.6 percent of its value. The NASDAQ fell by 46 points, 11.35 percent of its

value (although many of the dealers stopped trading early, limiting the reported

decline). An important, but often forgotten, factor in this decline was the 10.12 percent

decline in the S&P 500 in the three trading days prior to October 19[1].

Mitchell and Netter (1989) argue that this three-day decline was an important

contributing factor to the crash in fact, they describe the decline as a ‘‘trigger’’. In this

paper, we review this argument, provide simple descriptive evidence supporting the

argument and suggest how October 1987 is different from the market decline in late 2008.

We report data that the drop in the stock market immediately preceding the October 19,

1987 crash that others have shown was very large in historical terms remains one of the

largest declines over the next 20 years. Additionally, we document the unprecedented

level of volatility since August 2008 and show how it is different from 1987.

The October 19, 2007 market crash of more than 20 percent did not seem to be

related to any fundamental news. However, Mitchell and Netter (1989) argue that the

three-day decline preceding the crash was a large enough decline that it became the

fundamental news and that shook the market. The theoretical model of Jacklin et al.

(1992) (among others) shows how a surprise significant drop in the market could have

provided information to the market that would directly lead to a crash. In this paper, we

present evidence that even 20 years later, the magnitude of the market decline

immediately preceding the 1987 is still a significant outlier only one three-day

period in the 20 years after 1987 had as large a market drop.

Jacklin et al.’s model suggests that the sharp market decline preceding the 1987

crash revealed the effects of new investment strategies by investors that had not been

fully anticipated by the market (they build on Grossman’s (1988) model of the effects of

imperfect information about portfolio insurance). This revelation to investors of the

extent of dynamic hedging caused investors to dramatically revise downward their

stock valuations. Other explanations of the 1987 crash include liquidity problems (the

Presidential Task Force on Market Mechanisms (1988) The Brady Report) in trading

when volume increased tremendously (perhaps as the result of portfolio insurance

trading), or changed investor psychology or some combination of all the theories.

However, each of the theories is consistent with the effects of a large downward market

movement directly preceding the crash that was significant and unexpected, triggering

the October 19 crash.

The paper proceeds as follows. In section 2, we examine possible reasons for the

1987 crash, providing a general discussion on what causes large market movements,

and reviewing the Mitchell and Netter work on the 1987 crash. In section 3, we examine

trading volume and market volatility since the 1987 crash, including the extraordinary

market events of the fall of 2008. We conclude in section 4.

2. Explanations for the October 1987 crash

There are at least three general views of the causes of the stock market crash on

October 19, 1987. The views are not mutually exclusive. One is the efficient market

story the market reacted to some fundamental news that led market participants to

revalue stocks down by more than 20 percent in one day. A second is a liquidity

story for some reason, probably a large number of sell orders, liquidity declined

significantly, depressing prices. A third is some variant of a behavioral finance

story investors acting irrationally either drive prices up too high, followed by a

significant fall, or panic and sell for some reason, significantly depressing prices.