Friday, 19 October 2012

The Day the Dow Dropped 3,116 Points

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25 years ago today the stock market collapsed—and I mean collapsed in the full sense of the word: on Monday October 19, 1987 the Dow Jones Industrial Average fell 23%, or 600 points.

And while 600 points may not sound like much these days, 23% into today’s equivalent is 3,116 points.

3,116 points.  Get your mind around that, as Warren Buffett would say. In any event, I was on Wall Street (figuratively speaking—I worked mid-town) that day, at a money management firm of which I have very fond memories. It was a great shop, with a great client base (families mainly—this was in the days before fund-of-funds, ETFs and all manner of dis-intermediaries between investors and investments) and money managers with a real eye for investing in companies (as opposed to buying stocks, which is an entirely different mindset).

Every time I pitched an idea—I was an analyst—one of the portfolio managers would start nodding and say, “Oh, I have a client who used to compete with them,” or “One of my clients sold out to those guys”…and then I would get a lesson in how that particular company actually managed itself behind the façade of quarterly earnings and black-and-white SEC filings.

It was a great shop.

Anyway, by the time Black Monday came, we’d been getting strange vibes about the stresses building up in the market—not because our clients were day-trading types who had been caught up in the pre-Crash mania, but because they weren’t day-trading types, and yet here we were a week or so before the collapse getting hit with all manner of redemption requests.

The pressure built so quickly that the Friday before Black Monday I heard we were selling stocks overnight in Japan to raise liquidity for somebody.  And we weren’t a “sell overnight in Japan”-type place.

I thought “Well if it’s this bad for our clients, Fidelity must be a basket case.”

So Friday afternoon I sat at the Quotron machine (look it up, kids) and began hunting for the highest-multiple, most consumer-sensitive stock I could find.  It turned out to be Home Depot, which was sort of the Lululemon of its day.

And I shorted Home Depot.  Not alot, but just enough to hedge my own investment portfolio.  Then I went home for the weekend, which is when everything came unglued.

What I remember about Black Monday mainly was how quiet it was (this was pre-CNBC, pre-Internet, pre-cell phones).  The trading room (not a big one—we only had three traders) was like a funeral parlor.  Portfolio managers drifted in, arms crossed, and looked over Roger or Donna or Mary’s shoulder at the screens, shook their heads, muttered something like “What is going on” and left the room to get back to the calls from their clients who were asking the same thing.

I had lunch with another analyst at a Japanese sushi place in mid-town—it was a nice break from what seemed like the end of our world as we knew it—and tried to think through the implications, secure in the knowledge that, however badly it all ended, I had shorted Home Depot, so my own portfolio was hedged.

Otherwise, that day and the days after Black Monday are a blur.  NASDAQ broke down—quotes didn’t mean anything—and the shock to the system seemed irreparable. All manner of strategists came through our offices over the next few weeks and months, trying to explain what had happened and what it all meant.

The only one I remember—the only one who made any sense—was Larry Kudlow.   Yes, the CNBC Larry Kudlow.

In those days Larry was a Wall Street economist, and quite a good one.  And Larry sat at the head of our conference table with a group of stunned and scared portfolio managers and analysts, and he said, and I can still quote him because the sentence was the only crisp, clear thing anybody said at the time: “What we had was a good old-fashioned liquidity crisis.  It started with the Fed tightening and was precipitated by portfolio insurance…”

And he then explained why the Fed was doing the right thing (easing like crazy) and the world would come out in good shape.  He was the only strategist who said that, and even though most of us thought he was crazy, it turned out he was the only strategist we met that fall who had it dead right.

In any case, our firm did remarkably well coming out of Black Monday.  The day after the crash, the principles had called a meeting and said to all us analysts, “Give us your single best company.”  And then they walked out of the room and bought those stocks for the firm, at a time when everyone else on Wall Street was too scared to buy anything but hard liquor and a chaser.

Me, I closed out my Home Depot short, feeling pretty good about it.  The stock fell 25% on Black Monday and bottomed 30% off the price where I’d shorted it.  I bought the stock back some time that week, feeling pretty slick that I’d had the foresight to hedge myself by shorting one of the most popular stocks of that era.

Of course, Home Depot has come a long way since then.   Last night it closed at $61.80.

Where did I short it way back in October of 1987?

Well, I shorted it at the split-adjusted equivalent of $0.70 a share, and bought it back at around $0.50 a share.

Which means, genius that I am, I sold Home Depot for less than today’s annual dividend of $1.16 a share.

And that’s why, when I tell my grandchildren the story of Black Monday, I’ll be leaving out the part about Home Depot.

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