Blog Post

A couple of market commentators (eg. Chris Mayer) have drawn parallels between today’s credit crunch and the Panic of 1907. There are certainly a number of similarities: in 1907 speculation was rampant and credit expansion out of control. New, highly leveraged investment vehicles (the Trusts) embraced the easy money conditions and employed little in the way of risk control. At first they profited greatly. But, as always, market conditions changed, money became tight, and the credit bubble burst. Then, as now, lending collapsed and the runs on the banks and trusts began.

Of course there is at least one notable difference between 1907 and now: in 1907 there was no Fed to ‘rescue’ the financial system. Back then the big private players, led by JP Morgan, organized a rescue of the less insolvent firms, and restored confidence to the system. They had rather more clout back then. Today, in a rather sad echo of 1907, the Fed arranges a convoluted deal with JP Morgan to take over Bear Stearns. I agree with Hussman that this deal is more likely to enrich JP Morgan than save us from a market crash.

Interestingly, the wider economy in 1907 suffered only short-term effects from the numerous bank failures and the 50% fall in the market. Nevertheless, the Fed was established in 1913 to ensure there would be no repeat. Ironically, 16 years later the Fed would exacerbate a market bubble and mishandle the subsequent collapse to such an extent that the great depression would result. This last point has been hotly debated over the years, but mainstream economists generally agree that the Fed’s contraction of the money supply was chiefly to blame for the mess from 1929 onwards. Ironically, again, chairman Bernanke shares this view, yet believes this time the Fed will be our savior. Time will tell I guess, but I’m skeptical.

As speculators (or investors if the semantic difference matters to you) I think we should treat this history lesson with more than mere idle curiosity, especially if we believe the Fed cannot prevent the market from falling further (here I defer to Hussman, Mauldin and Mish who argue the case for a secular bear market very well). I don’t believe we should simply hunker down and hope to ride this thing out. There are ways to profit under almost any conditions. And luckily for us Edwin Lefevre’s account of Jesse Livermore’s 1907 coup provides us with an excellent guide. But as this post is already overlong, I’ll leave that till tomorrow.