An Intro to Market Crashes
While the stock market is a great way to store extra wealth, it’s also a terrifying place where you could lose it all. For example, if you buy 100 shares of Facebook, going for 130.99 as of today (a $13099.00 investment), and it went down a single dollar, you would lose $100 dollars instantly. Now, $100 is tiny compared to $13099. However, a $1 movement in the stock market isn’t anything alarming; when the market crashes, investors are liable to lose quite a bit more wealth from rapidly falling prices. Combine this with leveraging, and you can see why market crashes are so dangerous (leveraging is essentially borrowing money to invest. It can help you make higher returns, but is a poor decision right before a recession because the value of the securities you bought are lowered, while what you owe still stays the same; in other words, more money has to come out from your own pocket to cover the difference).
Why does the stock market even crash in the first place? When it comes down to it, these crashes happen because of lack of confidence in the market. If companies as a whole stop doing well, investors may collectively decide that they should sell their current positions. If too many of these investors sell, they’ll cause a run. In other words, the share price will plummet because of basic supply and demand laws; since there is high supply and little demand, the share prices will lower until they reach equilibrium. If the share price goes low enough, even more investors will cut their losses and sell, driving the share price even lower, and the cycle goes on. Granted, the share price will likely stay above a certain level because of the solvency of the company, but much wealth can be lost in these runs.