You may have heard that historical events influence the current stock market. However, exactly how and why this happens and how to understand it is not always said. Let’s try to find out.
There is a very interesting idea that can be applied to any area of life. To understand the present and find out about the future, it is important to know the past.
We cannot understand what is happening today if we do not have a clear vision of the past. When applied to the stock market, some issues can give us a better understanding of how to behave in a situation similar to the one we are currently living through.
Lessons from history in the stock market
The first thing to consider is that, when we talk about the stock market, we discuss many different needs with which millions of investors interact.
For example, in the United States, we can talk about the New York Stock Exchange or NASDAQ. But we could also talk about other major international stock exchanges such as Tokyo, London, Frankfurt… And dozens of other markets around the world.
It is important to understand this as a first lesson because, although markets are interconnected, they are not all affected in the same way by an event. For example, the coronavirus pandemic has affected all markets, but the economy started to recover as some countries moved out of the high risk zone. These markets suffered less than those of even more compromised countries.
Another important lesson to keep in mind is that stocks go up and down in price within stock markets and are affected by trends, geopolitical situations, or health events such as pandemics.
At the same time, another important lesson is that stock markets have a cyclical behavior. This cyclical behavior leads to repeating patterns that, more or less, can be studied and which are repeated over long periods. This does not mean that they can be predicted exactly; each pattern can have different behavior in terms of duration, intensity, etc. However, some cycles can be determined.
Some historical lessons from the US stock market
The Great Depression in 1929 is often the starting point for modern historical analysis of the US stock market.
Using this measure, the U.S. stock market has collapsed more than ten times since the 1920s (actually 11 times).
The 1929 crisis is probably one of the most severe economic crises the modern world has ever known. In that crisis, one of the main market indicators, the S&P 500, lost 86% of its value. To give us an idea of the importance of that crisis, it would take 35 years for this index to recover its pre-1929 depression peak.
Subsequent recessions have been shorter. The one that started in 2007 with the housing bubble is probably one of the toughest in modern times, in the 21st century. It cannot be compared, especially because the Depression of 1929 followed an event of the magnitude of the Second World War.
We have also witnessed much shorter collapses over the last 100 years, in some cases even for less than a year.
Can historical cycles in stock markets be interpreted?
It is a great temptation to try to understand exactly how the market will behave based on the analysis of the past. However, this is not very easy; it is practically impossible.
It should be borne in mind that, although the behavior of stock markets is cyclical, we cannot determine the degree to which this will occur. In the same way that we cannot predict that an upward movement will be sustained for a particular time, we cannot indicate that a downward cycle in the stock market will reach a specific loss or time limit.
Therefore, in the short term, it is not at all useful to try to make such interpretations. The long term is another matter. Over the long term, stock markets have been shown to recover. Diversified investments over the long term have increasing trends even over long periods of recession.
What can I do if I am afraid of interpreting historical events in the stock market?
It is normal to have some fear about reviewing stock market history. No one likes to enter a down cycle and suffer the loss of value of their shares. Some conclusions you might try to apply in this case are the following:
History has taught us that stock markets have cycles in which falling values alternate with moments of rising importance. There is no single trend. Stock markets lose and gain. Long-term averages tend to trend upwards.
Even in down periods, you can still look to make profit. Many big investors are specialists in finding low moments of value to increase their portfolio, and the value of their shares over time.