The bear market that began late in 2007 turned into a full bore stock market crash last fall. It is important to distinguish between the two. A bear market is a prolonged, substantial downturn—typically 15% to 20% over several months. A crash, on the other hand, is a similar—or worse—fall, but within a few days. To navigate a bear market, investors need to remain rational and think about the long term. However, maneuvering through a crash is different. When others are panicking, which is what happens in a crash, normalcy disappears and you need a combination of discipline, flexibility, and fortitude.
During the crash, I revisited one of my favorite books, Deep Survival, by Laurence Gonzales. In the book Gonzales attempts to “illuminate the essence of the true survivor—the internal battles that are waged between fear and hope, reason and emotion, despair and correct action.” It is not an investing book. Rather, it’s about wilderness survival: How people endure when they’re completely lost, badly injured, or confronted with a life-and-death crisis.
You might be thinking: Why weren’t you reading an investment book? Well, the word “crash” is a particularly apt metaphor for a sharp, sudden stock drop. A crash is a quick, sudden, disastrous impact that (one hopes temporarily) rends the world asunder. The human brain responds to both physical and mental crashes similarly. Whether you wreck your car or see your stock or mutual fund account fall 10% in a day or two, you will feel confusion, disorientation, horror, and panic. Below are some of my favorite lessons from Deep Survival, and how they played out in the 2008 crash.
Gonzales notes that unlike “the Rambo types [who] are the first to go,” you need humility. One of the most lasting effects of 2008 is that the Wall Street investment banks no longer exist as they did in 2007. The banks that took the most risk and were the most stubborn—Bear Stearns and Lehman Bros.—went bust. Merrill Lynch sold itself to Bank of America at a distressed price. Meanwhile, Morgan Stanley and Goldman Sachs decided to reduce leverage and become bank holding companies, a humbling move that enabled them to survive on their own. For individuals and small business owners, the lesson is not to push finances to the limit (such as credit card debt), and to know when to rein in (sell the expensive home, say) rather than flirt with financial disaster.
According to Gonzales, when you are fighting for your life, “you must hold onto [your] plan with a gentle grip and be willing to let go.” He goes on to underscore the point in declaring, “Rigid people are dangerous people.” This lesson applies to the investors in some of the other companies that blew up. Fannie Mae, Freddie Mac, AIG, Washington Mutual, and Wachovia all ceased to exist as independent entities.
Yet people refused to believe and accept that these titans could disappear. When everything goes haywire, it is essential to re-examine future assumptions about a company’s survival given specific circumstances—rather than rosy scenarios. Indeed, Gonzales suggests, “Only 10 to 20% of people can stay calm and think in the midst of a survival emergency.” Instead, most people “get rattled. They panic. They freeze.” This passage describes the crowds last fall, those who panicked and sold equities at or near multiyear lows. Their brains seized up and all they could do was rush to the exits. Indeed, redemptions in mutual funds actually surpassed the previous high set in July 2002.
Finally, Gonzales says survivors “see opportunities, even good, in their situation.”
To my mind, this was critical in the recent crash. A minority of investors—the 10% to 20% referenced earlier—remained calm and realized that forced selling and terror were slashing stock prices on high-quality companies. These investors assessed valuations and as most saw red, they saw green—the color of money. Severe price dislocations offered once-in-a-lifetime bargains. Whether they are already profiting or whether it will take months or years to do so, they will be big winners—long term.
Mellody Hobson is president of Ariel Investments L.L.C., a Chicago-based money management firm serving individual and institutional investors. She is a regular contributor to ABC’s Good Morning America.
This story originally appeared in the April 2009 issue of Black Enterprise magazine.