Thread by @JamesMarsh79

👇Today, let's look back at the greatest tail events of the past 30 years and see what we can learn. Tail events are very large, rare stock market deviations that have major consequences for investors. The first tail event is the 1987 crash. #tailhedge #risk

The most consequential crash in United States history. Luckily, the Federal Reserve cut interest rates fast enough to prevent what could have been a complete collapse of the financial system.

Did we learn anything? The true severity of market crashes is hidden by past data.

Before the crash of 1987, the worst down days were close to 13%, 50 years earlier during the Great Depression. In late October 1987, the market lost close to 23%.

The prices for options changed after the crash of 1987. Now, traders priced in a skew to the downside.

#2. The 1998 Long Term Capital Management (LTCM) bankruptcy. At the end of the summer of 1998, LTCM began to run into major financial trouble when Russia defaulted on some of its bonds. The stock market lost over twenty percent in a month.

The firm was partially run by several famous academic economists, including Myron Scholes and Robert Merton. Scholes won the Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel prize. Not a real Nobel prize.

What did we learn? 👇

Economists should stay away from business and risk-taking. Their worldview is not based on reality.

#3 The technology bubble and bust of 1999-2000. With almost unlimited optimism about the prospects of internet businesses, the Nasdaq exploded in 1999. The value of internet and technology businesses increased by thousands of percent, but crashed in March of 2000.👇

Tail risk is not just the downside. If you miss out on rare large rallies, it can be just as detrimental to your wealth as if you miss out on large declines. Have a plan to capture the upside and downside

#4 The Great Recession of 2008. The United States banking system almost collapsed after decades of risk and bad real estate loans.

Cutting rates to zero and printing money provided some relief but could not fix everything by itself; taxpayers also had to buy some bad loans in order to save the day.

Taking risks requires everyone to have skin in the game.

It is necessary for risk taking to come with losses. The idea of bailouts is immoral.

The SP500 plunges close to 50% during the crisis. Tail hedges pay off huge.👇

#5 The Covid Crash of March 2020.

Covid 19 catches almost the entire world by surprise. The United States had not experienced a pandemic for over 100 years and did not understand that globalization would cause disease to spread much faster than only a few decades earlier.

This was not a black swan event. The US government should have been preparing for an infectious disease outbreak.

The SP500 loses close to 30% in a month.

Risk is never going away!

Thank you.