The stock market has been a pillar for most economies all over the world. Most of the largest corporations in the world owe their success to the stock market. Take Coca Cola for instance which was worth $25 Million when it was started in 1923. The company is now worth over $234.63 Billion. The success can be attributed to the stock market. There are also millions of people who have become stinking rich by investing in the right stocks at the right time. When many people get rid of stock at once, it leads to the stock market crashing
What goes up?
What goes up must come down is one of the common sayings. The stock market isn’t spared by this rule either. There are instances when the stock market is up and other times, many lose equity in just one day.
One example is in 1929 when there was the worst stock market crashing by diving 25% in just 2 days. Three years later, the Dow Jones Industrial Average lost a total of 90%, leaving thousands of people without a source of income and was reduced to begging.
Other recent stock market crashes
- In 1987 known as Black Monday where the stock recorded a crash of 20% in one day.
- 1990 oil recession, which in turn, caused the market to drop by 18% in 90 days?
- The Asia financial crisis IN 1997 where the stock market overheat
- In 2000, there was the fear of the Y2K bug which led to a dip in the stock market
- In 2008, there was the global financial crisis which is the worst since the great depression of the 1930s.
From all these instances, it’s safe to say that before a stock market crash, there are tell-tale signs and if someone is keen, they’ll be able to pick them up. When you identify the signs early enough, you can save your investment. Warren buffet is undoubtedly the king of stock market investment and he has come up with some rules for investment. They are:
- # 1 Don’t lose money
- #2 Remember rule 1
Here are signs that the stock market is crashing
1. When stocks climb too fast
Most people wait for the stock to rise in order to buy but this is a very dangerous move. You may end up losing all your investment at a go. If stocks climb too fast, it may be a warning that they will crumble just as fast in a matter of months or even days.
When there’s a rush to get rid of stocks that have climbed too fast, it often leads to panic selling which in turn, leads to a market crash and many investors lose their hard-earned cash.
2. Margin debt
Investors are greedy in nature which isn’t a bad vice necessarily when it comes to investing. The trick is in knowing when to go all-in to invest and when to hold back. When investors want to make huge investments and don’t have the money, they result in borrowing. If they are lucky, they’ll make a return on their investment but not many are so lucky.
After buying the stocks, they begin to sell when the price is still high which causes the market to sink. Other investors also get rid of their stock in fear of incurring losses which crash the stock market even more.
An initial public offering (IPO) is a situation when a company opens up its doors to the members of the public to purchase that particular company’s stock in order to facilitate its growth. IPOs are effective in helping the company’s gain the required financial muscle to grow but the problem underlies when many people rush to buy the stocks.
An increase in the number of IPOs in any financial cycle is a sign that trouble may be brewing in the stock market and investors are optimistic during such times.
4. Mergers and acquisitions
There are two main ways in which companies grow:
- Gaining more customers which takes more time to achieve growth
- Through mergers and acquisitions which is a fast process
Most companies chose the latter over the former because they want to achieve growth too fast and buy off their competitors. When this happens, companies deplete or are left with small amounts of cash flows. It takes a bit of time for the company to return to profitability and if luck is not on its side, the company can end up filing for bankruptcy.
Companies that eat into their cash reserves following a merger and acquisition may end up borrowing which increases the debt interest which eventually leads to the closure of the company.
5. Issue debt
Once one in a while, a company can issue debt for stock buybacks and this can lead to a crash in the stock market. A stock buyback is good for the shareholders but when debt is used for the buyback, and then there is a problem.
A major buyback from using debt reduces the company’s cash reserves and eventually, it eats into the revenue. The collapse of such a company can in turn; trigger the crash of the stock market.
6. Inverted yield curve
In an ideal situation, long-term interest rates are higher than short-term ones in order to reduce the risk. When a company finds itself in a condition where it’s the other way round, then there’s a cause for alarm.
When investors are hopeful that future yields on their equities will be lower than they currently are, they are willing to accept small interest on long-term debt than on short ones. The investors then move to the treasury to lock the current yields to cushion themselves from losses. There’s evidence of an inverted yield curve before each recession occurs.
The unexpected bad news is referred to as a black swan event in the stock market quarters. A case in point is the coronavirus which has impacted the stock markets all over the world in a negative way.