Lessons from the 1987 Crash
It has been 25 years since the 1987 Crash, and I thought it would be a good time review a few things that probably won’t be covered elsewhere in the media. I may have covered these issues in the past, but a refresher can’t hurt.
(This is a recent excerpt from the blog for Decision Point subscribers.)
One thing that some analysts like to do is to note the similarity of past price patterns to current price patterns, implying that the current pattern will resolve similarly to the historical example. In 1987 we have an example of how dangerous such assumptions can be.
On the chart below I have circled two price patterns that are remarkably similar. Each has a double top, then a double bottom, then a rally out of the double bottom, which fails, then a pullback to the support level. At that point what follows is radically different. In example #1 prices rally to new, all-time highs. In example #2 prices dive into one of the worst crashes in history. Lesson: Just because history rhymes doesn’t mean that the ending will be the same.
Click to enlarge.
Next, one might ask if there were any technical warnings? For the answer, let’s look at a chart of our Intermediate-Term Breadth and Volume Momentum Oscillators (ITBM and ITVM). On the price line there is a top in August 1987 that is higher than the previous top in June. Corresponding tops on the ITBM and ITVM show a negative divergence, a bearish indication.
A more serious negative signal occurs at the final top in October before the crash, when the ITBM and ITVM both top below the zero line (see arrows).
Click to enlarge.
To be fair, in hindsight the signs are always obvious, and there is a lot of ambiguity in real time. Nevertheless, negative indicator signs viewed in the context of the final breakdown of price below support just before the crash is pretty strong evidence, and there was adequate warning to take action.
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Technical analysis is a windsock, not a crystal ball.
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Carl Swenlin is a self-taught technical analyst, who has been involved in market analysis since 1981. A pioneer in the creation of online technical resources, he is president and founder of DecisionPoint.com, a premier technical analysis website specializing in stock market timing, market indicators, charting, and focused research reports. Mr. Swenlin is a Member of the Market Technicians Association.
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