The narrative of the 1929 crash as mass psychological panic is misleading. The primary driver was a mechanical liquidity crisis where heavily leveraged investors were forced by margin calls to sell, creating a downward spiral regardless of their long-term belief in the market.
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Ray Dalio argues bubbles burst due to a mechanical liquidity crisis, not just a realization of flawed fundamentals. When asset holders are forced to sell their "wealth" (e.g., stocks) for "money" (cash) simultaneously—for taxes or other needs—the lack of sufficient buyers triggers the collapse.
In 1929, the stock exchange ticker fell hours behind real-time trading. This information vacuum created immense uncertainty, forcing investors to physically crowd Wall Street for updates. This chaos, driven by a lack of data, contrasts sharply with today's high-speed, social-media-fueled market reactions.
The 1920s bubble was uniquely driven by the new concept of retail leverage. Financial institutions transported the nascent idea of buying cars on credit to the stock market, allowing individuals to buy stocks with as little as 10% down, creating unprecedented and fragile speculation.
According to Andrew Ross Sorkin, while bad actors and speculation are always present, the single element that transforms a market downturn into a systemic financial crisis is excessive leverage. Without it, the system can absorb shocks; with it, a domino effect is inevitable, making guardrails against leverage paramount.
Contrary to popular belief, the 1929 crash wasn't an instantaneous event. It took a full year for public confidence to erode and for the new reality to set in. This illustrates that markets can absorb financial shocks, but they cannot withstand a sustained, spiraling loss of confidence.
Widespread credit is the common accelerant in major financial crashes, from 1929's margin loans to 2008's subprime mortgages. This same leverage that fuels rapid growth is also the "match that lights the fire" for catastrophic downturns, with today's AI ecosystem showing similar signs.
The 1929 crash's roots aren't just in stock speculation but in a 1919 cultural shift where General Motors began offering car loans. This normalized consumer credit, which was then applied to appliances and ultimately, stocks on margin, creating the bubble.
Citing a lesson from former Goldman Sachs CFO David Viniar, Alan Waxman argues the root cause of financial crises isn't bad credit, but liquidity crunches from mismatched assets and liabilities (e.g., funding long-term assets with short-term debt). This pattern repeats as investors collectively forget the lesson over time.
Selling in a downturn is driven by two distinct forces: voluntary panic from seeing portfolios in the red and consuming negative media, or forced sales (margin calls, foreclosures) when investors have used too much debt and can't cover their positions.
Counterintuitively, the wealthiest individuals suffer the largest losses during financial bubbles because they are the most leveraged at the peak with the most wealth to compress. The common narrative that retail investors are hurt the most is often incorrect.
