How does a stock market crash occur can be answered fairly simply. It is down to a lack of confidence in the marketplace, and this can be due to any number of factors. We need to look at those factors to discover the answer to “how does a stock market crash?”
If confidence in the market lacks, it is important to consider both why and how. Does a stock market crash just on the say-so of a couple of people? Very rarely, but if those people are major investors who suddenly come out with adverse comments in the media, then they could spark a crash.
Those comments may be a result of poor economic forecasts or lower than expected results for a particular sector. It does not matter so much what causes the initial selling. It is how the more significant investors react that drives the market. Once ordinary investors see the major players leaving the stocks and shares of bigger companies, they tend to get drawn into the “herd instinct.” That means that even though they do not know for sure that something is wrong, they believe that others know something they do not and begin to react without thinking for themselves.
For example, if the institutional investors feel one sector of the market is overpriced, they may decide to take their profits and run. That alone could cause small investors to try to get out at the same time, leaving fewer and fewer people who want to hold the stock resulting in a panic setting in.
Since the introduction of computers in the stock market dealing, it is this blind panic reaction that can so easily spark a crash in the market. Because the computers are programmed to react to price falls of a certain percentage, they will indicate to the traders that they too should sell. What happens then? Other computers and traders get signals that the market for the shares has fallen and triggers their selling and so the frenzy grows with each set of selling signals feeding the next round of price falls.
The major stock markets are so concerned about this automated selling cycle that they have measures in place to close the markets if prices fall below a certain amount within a particular time frame.
You can see that lack of confidence for either real or imagined reasons can be the answer to the question of how does a stock market crash occurs? Then, of course, we now have had a market crash, not due to any news in the markets but due to health reasons resulting in a pandemic. Has the market seen the last of pandemic issues? That is something that only time will tell us. But I do fear that the markets are artificially propped up due to the actions of the Federal Reserve and supplemental unemployment payments.
As with any movements in the markets, it is unwise to try to figure out what will happen next. Instead, focus on your investment plan and stick to long-term investing. If and when the days occur where the market drops a lot, take advantage and buy quality stocks at a reasonable price.
If the markets and financial outlook have you concerned, reach out to a Registered Financial Consultant who is fee-based and uses your values as the basis for any planning.
