Trade the Congressional Effect: How To Profit from Congress's Impact on the Stock Market

What Caused the Crash of 1987?

What really happened in the Crash of 1987 is that on the Wednesday before the crash, Congressman Dan Rostenkowski, chairman of the House Ways and Means Committee, passed committee votes to eliminate interest deductions on junk bonds (now known as high-yield bonds) if these bonds were used for acquisitions. Congress's motivation was to provide protection to the entrenched managers of companies that were potential takeover candidates. But the tax committee clearly did not have a clue as to the unintended consequence and cost of providing such protection. Every stock trades to a greater or lesser extent on its potential to be a takeover candidate. With one news release, the politicians forced the market to consider that there may no longer be any acquisitions involving junk bonds. The so-called “deal” stocks, such as United Airlines, those held by arbitrageurs, had their own Crash on the Wednesday, Thursday, and Friday before the crash. By Friday night, half the major houses on Wall Street knew that all their profits for 1987 had just been wiped out by three days of losses in the firm's proprietary arbitrage accounts.

This legislative action destabilized the market.

The second blow to the market was another political blow. Over that weekend before the crash, Secretary James Baker, trying to get the Germans to lower their interest rates, threatened to let the dollar go down in value. It was a glimpse of the fracturing of exchange rate accords. Coming ...