When the stock market is falling, understanding market history and current conditions can help us make objective, less fear-driven investment decisions.
In this episode you’ll learn:
- How the global system of time zones and dates developed.
- Why stock markets can plummet in value at the opening bell.
- What is the difference between a market order and a limit order.
- Why investing based on emotion is risky.
- Why it is difficult to consistently time market corrections.
- What is the severity and duration of bear markets when the economy is slowing versus expanding.
- How the U.S. stock market during the fifth year of the decade always been positive.
Please Don’t Panic At The Open
Monday morning I woke up to see the Chinese stock market had fallen nearly 9% while I was sleeping. European stocks were down over 6%.
The U.S. market had not yet opened although stock futures were suggesting the U.S. opening for the stock market would be brutal.
Market Opening Times
This raises an interesting question. Why does the U.S. day and its markets open after Europe and Asia?
In other words, why when the sun rises in Japan on Monday is it still Sunday in the U.S.?
The International Date Line could just as easily have been placed in the Atlantic Ocean instead of the Pacific, in which case Monday would start in New York before Tokyo and in Tokyo before London.
London investors could then wake up to find U.S. and Asian markets plummeted.
In the 17th century and earlier, when communication and travel were excruciatingly slow compared to today, there was no need for different geographic locations to coordinate dates and times.
The day started when the sun rose and ended when it set.
In 1764, the Englishman John Harrison discovered a clock could be used to locate a ship’s position at sea with great accuracy.
That discovery led to dividing the earth into longitudes so British shipping vessels could figure out where they were in time and place relative London.
Ground zero of longitude (i.e. 0 degrees) was set in Greenwich, England. This was England’s prime meridian.
Other countries located the prime meridian within their own countries, as the center of their world was not necessarily Britain.
Trains On Time
In the 19th century, the invention of trains required the need for even greater time coordination as locomotives could travel hundreds of miles in a day.
During the early days of trains before the invention of the telegraph, trains could travel faster than even the fastest mode of communication, necessitating very rigid scheduling in order to prevent collisions.
Later, even with the invention of the telegraph, there was no standardized time system as each city set its own time by the sun, leading to over 300 different time zones in the U.S.
U.S. railroads attempted to simplify this somewhat and established 100 times zones.
The Global Prime Meridian
In October 1884, the increasing need to coordinate transportation culminated in the International Meridian Conference held in Washington, D.C. At the conference, a proposal was adopted in which the prime meridian and the center of timekeeping would pass through the Greenwich Observatory in the United Kingdom.
Greenwich was a logical choice as Britain had the most ships, and they had been using Greenwich as their prime meridian since 1767.
With the global prime meridian set, the system of time zones and the International Date Line evolved from there.
That meant everything east of the UK until you reach the International Date Line occurs earlier in the day relative to England and everything west of the UK until the International Date Line is reached occurs later in the day.
Weekend Worries, Monday Panic
What this means for financial markets is U.S. investors have all weekend to fret about the stock market and economic developments. They can then arise early on Monday morning and see what occurred with markets in Asia and what markets are doing in Europe.
With Asian and European markets plummeting as they did on Monday, many investors panic and place sell orders to be executed when the market opens.
The sheer volume of sell orders can push prices down sharply, particularly for less liquid securities.
That is exactly what occurred on Monday as the Down Jones Industrial Average fell over 1,000 points or close to 6% in the opening minutes of the trading day.
The initial carnage for some exchange traded funds (“ETFs) was even worse. The selling was so ferocious in the iShares S&P 500 ETF that it fell by over 20% in the opening minutes before trading in the ETF was suspended for a time.
Calmer heads prevailed later in the day, and that specific ETF ended down just over 4%.
The lesson here is don’t wake up on Monday morning in a panic and place sell orders to be executed when the market opens.
Market Orders Versus Limit Orders
In fact, investors should rarely if ever place a market order for securities. A market order is a trade that will be filled at the best price available at the time the trade is placed or at the market open if the trade is place prior to then.
That is dangerous. Can you imagine how the investors who sold their iShares S&P 500 ETFs at the open and locked in 20% losses felt after seeing the ETF rebound a few minutes later.
Investors should always place limit orders. Limit orders allow you to set the minimum price you are willing to take when selling a security or the maximum price you are willing to pay when buying.
Limit orders are a prudent risk management strategy because it protects you against temporary price collapses or spikes that can occur due to a mismatch between the volume of buy and sell orders.
When To Reduce Portfolio Risk
Wanting to reduce stock exposure during market sell offs is a natural response. The decision to do so should not be in response to an early morning sleep deprived panic.
Rather investors who wish to reduce portfolio risk should make the decision based on an objective look at market conditions such as market valuations, economic trends and market internals, including momentum, trend and the level of investor fear and greed.