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In market nomenclature, a sudden and rather dramatic fall in index levels and in individual stocks is called a stock market crash.  

A market crash can be short-lived or may lead to a further decline in indices and individual stocks. Therefore, it’s imperative to analyse the factors that cause a market crash.

What causes a stock market crash?

Market movements reflect the strengths and weaknesses of the underlying economy, sector-specific trends and company-specific factors, among others. That said, markets tend to overreact to positive as well as negative developments—thanks to the greed and fear psychosis of investors. 

A stock market crash can happen primarily on account of two reasons:

  • Fundamental weaknesses such as poor economic growth, falling corporate profitability, etc.
  • Overreaction of markets to a specific event/development which may or may not cause deterioration in market fundamentals.

In other words, a market crash can be momentary and may not lead to a protracted lull phase. On the contrary, a market crash can also present good buying opportunities. 

If you want to understand whether a market crash is temporary or durable, then you should read more about market cycles. 

What are the stock market cycles?

Markets don’t go up or down in a straight line. They often move in cycles. An uptrend i.e. when stock prices, in general, are advancing, is called a bullish phase. A declining price trend is known as a bear market. 

Have you ever wondered why the market goes down? 

The answer is rather simple. Stock markets go down when they become overcrowded and overweight! What do we mean by that? A market downturn is often a consequence of unprecedented upswings that draw in lots of money and investors to markets. What starts as a sensible up-move often leads to a mad rush. And markets eventually crumble under their own weight. 

Three factors that lead to bull markets often sow the seeds of subsequent market downturns:

  • Elated optimism
  • Lack of risk-averseness 
  • Unabated flow of capital to markets 

Factors associated with bear markets that sow the seeds of subsequent bull markets 

  • Rising pessimism
  • Emergence of risk-averseness
  • Depleting flow of capital to markets 

Market phases don’t repeat but there are always similarities between different market phases. The reasons for a market fall or a market rise can be different each time. 

For instance, the US subprime crisis and the subsequent fall of top American banks caused the global meltdown in 2008. In 2020, it was a tiny little virus. However, during both of these phases of stock market crashes, there was a commonality: to begin with, investors didn’t acknowledge the magnitude of the underlying problem. 

And the difference was that the panic caused by the coronavirus pandemic was short-lived and markets recovered dramatically, whereas the economic impact of the US subprime crisis affected the global financial system structurally and showed long-term impacts. 

When markets started declining in 2008, many investors thought it was a pause in a bull market. Markets made smart gains and recovered almost all their lost ground by April 2008. Complacency kicked in. The global economy deteriorated silently. The collapse of Lehman Brothers in September 2008 caught markets unaware and pushed them into total disarray.  But once investors realised their mistake, markets crashed to factor in the underlying changes in economic conditions.  

Chart 1: Market Crash of 2008

C:\Vidhata\Blog Articles\December 2023\Stock market crash\hsjQl-monthly-chart-of-bse-sensex-.png

Contrary to this, markets had considered the coronavirus pandemic chiefly a local issue in China to begin with. But as the contagion started spreading elsewhere, markets crashed and recovered equally quickly as more information about the novel virus came to light. Unprecedented monetary support by monetary authorities across the globe calmed the market nerve. 

Chart 2: 2020 market crash: A tiny virus made a big hole

C:\Vidhata\Blog Articles\December 2023\Stock market crash\fw59x-pandemic-impact-bse-sensex-nosedived-and-recovered-.png

Therefore, the key is that you should be ready with your share market stock list before stock markets crash. 

To summarise

Markets move in a cycle and that’s normal. When markets make linear moves—whether upward or downward—they sooner or later become overbought or oversold, respectively. Markets crash when the underlying assumptions that they work with change overnight or threaten to affect the underlying economy negatively. A market crash can present you with a great buying opportunity. Be ready with a list of stock trading in India!

Tell us which stocks you would like to buy if markets were to crash tomorrow. 

Happy Investing!


Disclaimer:
The blog is for information purposes only and anything mentioned herein shouldn’t be construed as a fundamental reason to buy/hold/sell any stock. Furthermore, the information provided in the blog and observations made therefrom shouldn’t be treated as the extension of recommendations made on the other properties of Ventura Securities. If you follow any research recommendations made by our fundamental or technical experts, you should also read associated risk factors and disclaimers.
We strongly suggest you to consult your financial advisor before taking any decision pertaining to your finances. Asset allocation becomes extremely relevant.
We, Ventura Securities Ltd, (SEBI Registration Number INH000001634) its Analysts & Associates with regard to blog article hereby solemnly declare & disclose that:
 We do not have any financial interest of any nature in the company. We do not individually or collectively hold 1% or more of the securities of the company. We do not have any other material conflict of interest in the company. We do not act as a market maker in securities of the company. We do not have any directorships or other material relationships with the company.
We do not have any personal interests in the securities of the company. We do not have any past significant relationships with the company such as Investment Banking or other advisory assignments or intermediary relationships. We are not responsible for the risk associated with the investment/disinvestment decision made on the basis of this blog article.

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