News Flash: Bitcoin is NOT Too Big to Fail
Throughout our lives, unfortunately, some of our most embarrassing experiences tend to stick as permanent fixtures in our memories.
The same goes for Wall Street, too.
When things decline, people tend to remember. And when things decline a lot, people are sure to remember the date, engraving it into the collective consciousness for all time.
Within the past century, humanity has witnessed some of the greatest market crashes of all time… and they are certainly not easily forgotten, much to Wall Street’s chagrin.
The greatest crashes in history have taught us valuable lessons. But perhaps the greatest lesson of all is this: Things get big before they blow up.
The stock market crash of October 29, 1929, ominously dubbed Black Tuesday, has to be one of the most notorious crashes of all time.
Over $30 billion in market value was lost that day, equivalent to $396 billion today, making it the worst decline in all U.S. history.
It was definitely an event that was ingrained into my school's history lessons.
In the aftermath of Black Tuesday, America and the rest of the industrialized world spiraled into the Great Depression, the deepest and longest-lasting economic downturn in the history of the entire Western industrialized world.
During the 1920s, the stock market underwent rapid expansion, reaching its peak in August 1929, after a period of wild speculation.
By then, production had already declined and unemployment had risen, leaving stocks in great excess of their real value. Among other causes were low wages, the proliferation of debt, a struggling agricultural sector, and an excess of large bank loans that could not be liquidated.
Trading on Black Tuesday began with another down day after a correction just a few days before. However, the Dow fell 12%, and panicked investors sold over 16 million shares.
The crash followed an asset bubble. Since 1922, the stock market had risen nearly 20% a year.
And everyone invested thanks to the financial invention of buying “on margin.” It allowed people to borrow money from their broker to buy stocks, only needing to put down 10–20%. Investing this way contributed to the irrational exuberance of the Roaring Twenties.
The crash literally wiped people out. They were forced to sell their businesses and cash in their life savings. They lost faith in Wall Street.
And you can’t have a healthy economy without the people’s confidence in the market.
Last month marked the 30th anniversary of another one of the worst days in stock market history. Black Monday, as the day came to be known, is part of financial history’s fossil record.
On Monday, October 19, 1987, following large declines on Asian and European markets the previous week, the Dow plunged 508 points, or 22.6%, for the biggest single-day decline in percentage terms by the blue-chip benchmark.
While it didn’t usher in another Great Depression, it was the first time computer-driven trading had ever run amok.
The cause of the 1987 crash was primarily program trading, used by institutions to protect themselves from significant market weakness.
However, the program trading only exacerbated market weakness even though it was originally designed as a hedge.
The programs automatically began to liquidate stocks as certain loss targets were hit, pushing prices even lower. Then, the lowered prices fueled more liquidation, with stocks dropping nearly 23% in just one day.
Investors and regulators learned a good lesson from the 1987 crash, specifically with regards to the dangers of automatic or program trading.
In these types of programs, human decision-making is taken out of the equation, and buy or sell orders are generated automatically based on the levels of benchmark indexes or specific stock.
In a disorderly market, humans are needed more than ever to assess the situation and possibly override the system when things start snowballing out of control.
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Mortgage crisis. Credit crisis. Bank collapse. Government bailout. These are the phrases that made headlines all throughout the fall of 2008.
October 2008 proved to be an extremely volatile month, as investors began reacting to the worrisome credit market news that started back in March.
During the years preceding the credit market collapse, the subprime mortgage industry thrived.
Anyone could get a loan, regardless of their credit history and whether or not they would be able to actually pay back the loan. But as long as housing prices were on the rise, these poor lending practices were simply ignored.
Lenders could afford to write bad loans as long as the homeowner’s equity outpaced their desire for new debt. If borrowers failed to pay back their loans, lenders could simply foreclose on the home, since it was an asset of ever-increasing value.
The credit market’s problems began when housing prices started to fall sharply in 2007. Homeowners frequently found themselves with underwater loans: They owed more than the home was worth.
When faced with this, homeowners no longer feared foreclosure. Some even abandoned their homes, choosing to start over elsewhere rather than worry about paying off their debts.
As mortgage defaults started to rise, the national economy faltered. The Bear Stearns, Fannie Mae, and Freddie Mac collapses only weakened it further.
The stock market crash hit right at the beginning of October 2008. During the first week, the Dow fell 1,874 points, or 18%, and the S&P 500 fell more than 20%. Throughout the rest of the month, the indexes would fall even more.
Once complete destabilization of the stock market took hold, the major sell-off of stocks triggered an even larger decline of the market.
It took the U.S. economy years to finally reemerge from the Great Recession, and its lasting effects can be felt even today.
Bitcoin, Yours Is Coming, Too
It would be comforting to believe that nothing like this could ever happen again. But alas, that kind of panic can certainly become another horrific reality.
Case in point: Bitcoin.
It would seem that Bitcoin is “too big to fail” at this point, after reaching record highs of well over $7,000 not too long ago.
The value of the cryptocurrency has dramatically increased over the course of 2017, but according to investment and financial advisors, a crash is imminent.
Just this past weekend, Bitcoin saw almost $2,000 wiped off of its value, largely due to the fallout from the scrapped Segwit2x proposals.
By Sunday morning, Bitcoin sat at just over $5,600, the lowest it’s been since late October, when it experienced a sudden surge in value. Since then, the currency has seen incredibly wild price fluctuations of as much as $1,000 over the course of 24 hours.
It’s unclear what this shift will mean for future trading. Perhaps this instability highlights the perfect opportunity to move your money out of Bitcoin and into a much safer alternative.
Although the Bitcoin revolution may be nearing its end, there are other cryptocurrencies that are far more advanced than Bitcoin itself and lack some of their predecessor’s built-in weaknesses.
Most of these “altcoins” are tiny in comparison, but a select few are destined to achieve, and perhaps even surpass, Bitcoin’s size, success, and popularity.
In anticipation of the Bitcoin bubble bursting, my colleague Alex Koyfman spent months researching and sifting through the masses of altcoins to see which ones the next crypto bull market will pick next.
And he’s unearthed the next two winners from hundreds out there.
Until next time,
P.S. Make sure to check out our recent Investing After Hours podcast, where I talk about algorithm trading, ETFs, and some of the lurking dangers that could threaten your retirement.
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