How those in trenches would avoid a rerun of Oct. 19
What could be done to prevent another Black Monday? Paul Camilleri, assistant manager of the Southfield, Mich. office of E.F. Hutton, recently-acquired by Shearson Lehman Brothers, paused for a split second. Then:Skip to next paragraph
Subscribe Today to the Monitor
``We could start every week on Tuesday.''
Ah, were it so simple. Analyzing the causes of - much less the solutions to - the 508-point drop on the stock market on Monday, Oct. 19 has occupied thousands of column inches and several official investigations.
On Friday, the commission headed by Nicholas Brady, a former United States senator and current chairman of Dillon, Read & Co., gave its long-awaited report to the President. It makes some startling, already controversial recommendations (see story below).
In light of this and other recommendations by other commissions, the Monitor asked some of those in the financial trenches - brokers, individual investors, securities lawyers, politicians, and academics - to answer the question that supersedes all others: How can another Black Monday be prevented?
Austin Kiplinger, The Kiplinger Letter. ``In commodities markets, you have daily limits,'' says the publisher of this financial newsletter. If the price of soybeans swings more than 30 cents, for example, soybean trading stops for the day. ``I've often thought something like that would be useful for stocks.''
Apparently, the Brady Commission held a similar view. In intentionally vague language, it recommended creating a ``circuit breaker'' mechanism that would halt trading if the selling pressure became too great.
Richard Baldwin, Columbia Business School. By October, the stock market had become a ``speculative bubble'' - overvalued and just waiting to be popped, Professor Baldwin observes. ``If someone in, say, June or July had sold a lot of stocks and bought bonds, that might have burst the bubble sooner, and the crash would not have been as great,'' he says.
Perhaps in the future, the government should have that role, he suggests, as it does in the foreign exchange markets. Governments hold a portfolio of currencies, such as yen, dollars, and francs. (In the United States, this is done by the Federal Reserve.) When one currency - most recently, the dollar - falls too much in value to their liking, the governments buy that currency to prop it up.
``A similar intervention might keep the stock market closer to the fundamentals,'' Baldwin says. An agency, such as the Securities and Exchange Commission, could keep a portfolio of stocks and bonds. If, on a day like Black Monday, stock prices began to plummet, the SEC could sell their bonds and buy stocks. Once the crisis is over, the government could gradually sell back the stocks to even out its portfolio.
Asher Edelman, corporate takeover artist. Not a long-winded sort, Mr. Edelman offered this advice: ``Eliminate program trading.''
The corporate raider, who was somewhat burned on Black Monday, echoes the feeling of many others, who believe program trading accelerated the decline.
In program trading, computers spot mismatches between the stock index futures (a bet about how a group of stocks will be priced in the future) and the underlying stocks. The computers automatically buy the less expensive instrument and sell the more expensive one. On Black Monday, critics of program trading claim, the computers swamped the market with orders and sent stock prices into a free fall.
Clayton Sauers, West Point-Pepperell. Mr. Sauers, the chief financial officer at this Georgia-based consumer products company, sees trouble in the ``specialist'' system. These dealers are expected to buy up stocks that are being sold, and thus keep the market orderly. ``One of the more serious problems that came out of Oct. 19 was that specialists ran out of money'' because there was such a flood of sell orders, he says.
He notes that bank regulators require banks to keep a certain level of reserves to ensure they don't run out of money. In like manner, he says, ``Maybe we have to tighten the standards on the minimum capital base that specialists have to have.''
Bevis Longstreth, former commissioner of the SEC. Mr. Longstreth, now a New York-based securities lawyer, would change and effectively eliminate the specialist system through computer technology.
``We should have a better system to enable buyers and sellers to find each other,'' he says. When sell orders began flooding in on Oct. 19, Some ``dealers just disappeared, so there was no one to make the trade,'' he says. If buyers and sellers could interface automatically by computer, ``someone would be there to execute the buy orders,'' he says, and that would help buoy prices and stop the free fall.