A stock market crash is defined as sudden steep decline in stocks prices on the stock market. The short sellers smell blood when they saw that the market was crashing and they made out like bandits, but the effect that they had on the stock market is that they caused the prices of individual stocks to go down so fast and so hard that investors did not have a chance to sell their stock to get out of the market, because the market makers know that the stocks were going to go down and refuse to execute there buy orders.
In each regression, the right-hand side variables include three dummies for the four periods we focus on: February through June 2008 is the reference category, the first dummy is for July through September 2008, the second dummy is for October through November 2008, and the third dummy is for December 2008 through February 2009.
Now, with commodity prices resuming their plunge and currency wars spreading, concerns of financial contagion are back in the markets and spreads on corporate bonds versus safer, more liquid instruments like U.S. Treasury notes, are widening in a fashion similar to the warning signs heading into the 2008 crash.
Although three months have since passed without the market crashing – the last two crashes needed an average of 20 months to play out, with the S&P 500 declining an average of 51.5%. NIA is 100% sure that its indicator will be proven right once again, but we will need to wait until October 2016 for the crash to fully play out.
This magnitude is broadly in line with previous finings by, for example, Kezdi and Willis (2008) The post-crash relationship is just the opposite; there, the coefficient implies that the same one per cent increase would be followed by a drop of 0.4 percentage points (=0.335-0.721).