Observed portfolio-hedging sales would have caused under one percent of the 1987 crash.
Evidence
When Gennotte and Leland set the parameters of their model to values roughly corresponding to the U.S. stock market in 1987, the effects of whether or not 7t(po) is observed were dramatic. “The unobserved hedging which created a 30 percent crash in market prices, would have less than a 1 percent impact on prices if it were observed by all investors” (Gennotte and Leland 1990, p. 1016). — Donald MacKenzie, An Engine, Not a Camera, 870
Categorization
- QUESTION: The 30-percent-versus-1-percent contrast is striking; what parameters and assumptions produce such a dramatic nonlinearity, and do later replications support it?
- CANDY: That knowing about mechanical selling would shrink a 30% crash to under 1% is a punchy, quotable number for finance conversations.
- XREF: connects to: Rumors during the 1987 crash exaggerated portfolio insurance trade size three to fourfold — Donald MacKenzie, An Engine, Not a Camera: How Financial…, 874; Portfolio insurance’s inventors concede it helped cause the 1987 crash — Donald MacKenzie, An Engine, Not a Camera: How Financial…, 865
Broader Connections
- Rumors during the 1987 crash exaggerated portfolio insurance trade size three to fourfold
#qualifies(0.85) — Donald MacKenzie, An Engine, Not a Camera, 874 - Portfolio insurance’s inventors concede it helped cause the 1987 crash
#contradicts(0.75) — Donald MacKenzie, An Engine, Not a Camera, 865