THE BANK PANIC OF 1907.  A Historical Guideline For Today.  I’ve seen a couple articles comparing the ‘Panic of 1907’ to today’s ongoing financial crisis.  Made sense to me especially after I read the following passage by John Spence of www.MarketWatch.com about 1907 “… the financial panic of 1907, which was triggered by an unwillingness of some New York banks to make loans …”  So I pulled out my chart books which over the first ten years of writing my letter I anecdoted heavily from my studies.  And found this comment by Dow Theorist William Peter Hamilton, a disciple of Charles Dow, who wrote for The Wall Street Journal describing market conditions in 1907:   “…stocks were made very weak in both March and October, but then never got quite out of hand [my emphasis] which is the essence of a panic break.”  This observation really intrigued me since stocks have never gotten “quite out of hand” – no crashes – this time around since trouble first emerged last summer.  So I delved a little deeper.

A Brief History.  The bear market of 1906-1907 started in January 1906.  Starting from all time record highs.  And kept going down until November 15^th, 1907.  The Rails, the top dog index of that time, lost -48 ½% over  period of just under two years.  So that means prices fell on average of about 2% a month, fitting the Ken Fisher’s 2% Rule during extended bear markets perfectly.  Stocks fell from mid-January through early May 2006, a time which encompassed the April San Francisco earthquake & fire, Double Bottomed in July and then rallied until the fall.  Hamilton:  “As constantly happens after such violent movements there was a rally of rather move than one-half …”  This 1906 bounce back rally, which twice approached the old record highs reminds me of last year’s bounce back from the August lows to October’s modest new highs (in a few indices).  Similar to today, the first leg down in stocks proved to be modest, more like setting up stocks for sharper declines later on as time passed and more trouble showed up.  Stocks then took a big hit from January through March 2007 before finding a price zone they could defend and did so from mid-March through mid-August giving remaining bulls hope that a base with a possible retest, a.k.a. as another Double Bottom was forming.  But prices then took out their old lows later in August and after bouncing a little, using the March through August lows as a ceiling this time, and finally broke badly into the four-month period looked back upon as the Panic of 1907.  It took a month after the panic lows for investors to regain enough confidence to jumpstart a new bull market. 

During this 23 month decline it wasn’t until 17 months in that the economy turned down.  Schwartz:  That also reminds me of today.  A financial crisis occurring directly after record high stock prices, blindsiding whilst the economy had a full head of steam and not severely affecting the underlying economy for some time to come.  One major difference between 1907 and 2007 being that today we live in a real global economy, so this financial freeze starting in America not affecting the strongest global regions like emerging markets until some time after the original implosion. 

Reading through more of William Hamilton’s articles, here’s one which seems applicable to today and may accurately describe why stock prices then and now never “got out of hand”:  “… the professionals on the floor of the stock exchange, than whom there are no shrewder judges of the market movement, took the short side of the market on every rally throughout 1907 and did not abandon that position until the real recovery has started.”  Schwartz:  This may be why stocks didn’t crash back then and why they haven’t today as well.  Speculators providing the necessary counterswings. 

Schwartz View:  So maybe we won’t have a real crash during this bear market, just a series of declines, then minor rallies or sideways trading, ending with a panic leg but not any crash (which just may have started with the Bear Stearns dramatic sell off last week).  Now, one last intriguing item.  Mr. Hamilton noted that at the October 1907 crisis lows, people bought stocks figuring that was the bottom but got “…squeezed out at the still lower level in November, reached before the bear market ended.”  In other words, the crisis didn’t totally end the bear market.  For us today that means be cautious after a really bad sell off which we may think ends this bear market.   Net, net, I think we may have a guideline to follow.  No crash ahead because hedge funds are shorting every chance they get which lets the steam out of the tea kettle periodically.  But a panic stage before this bear is over.  So going forward strategy would be to scale in at what we think is the bottom as there may be lingering sellers and bad news at the very end.