Investing in the Stock Market: A 1920s Simulation

What is a Stock?A stock (also known as equity)

represents a share in the ownership of a company.

When you purchase a company’s stock, you become a part-owner of that company – a stockholder or shareholder.

A stock represents your claim on the company’s assets and profits.

Why Do Companies Sell Stock?Companies sold stocks (shares) of

their company as a way of funding expansion. Many new businesses in the 1920’s did this in order to keep up with high demand for their products.

For Example:If you owned a business and needed

to make $100,000 to afford expansion you could sell shares to raise the money. If you sold 10,000 shares at $10 a share you now have $100,000.

However, not every company can issue stock – only a registered business corporation can issue stock

AppleGoogleMicrosoftTim HortonsMcDonalds

Ownership of stock is represented by a stock certificate.

When you buy a share/stock you are actually buying part of the company. You now own part of the business and share in the company’s success and failure. People are interested in buying shares because it is an opportunity to make money.

For ExampleSuppose you buy 100 shares in Apple (Ipod).

You pay $25 per share and purchase 100 shares ($2,500). A few months later the value of your stock goes up to $35 per share. You now decide to sell your shares. You paid 2,500, but get back 3,500. You make a profit of $1,000.

What is a Stock Exchange?A stock exchange is a public market where

shares of stock are bought and sold between stock brokers and traders.

Historically, a stock market used to be a physical building where trading would occur, such as the New York Stock Exchange (NYSE) on Wall Street.

With the revolution in computer technology and telecommunications, more trading occurs electronically today, such as the NASDAQ.

Practically every major city/country in the world today has a stock exchange – Toronto, Montreal, New York, Paris, Tokyo, etc.

The NYSE is by far the largest and most powerful stock exchange in the world (controlled $28.5 trillion as of May 2008), but the NASDAQ has more trading volume than any other stock exchange in the world (with over 3700 companies and corporations).

Buying on margin could be very risky because if the value of stock goes down, the broker would issue a "margin call," which means that the buyer must come up with the cash to pay back his loan immediately.

In the 1920s, many speculators (people who hoped to make a lot of money on the stock market) bought stocks on margin. Confident in what seemed a never-ending rise in prices, many of these speculators neglected to seriously consider the risk they were taking.

So what happened in the 1920s?Because not everyone could afford to invest

in the stock market, many people bought stocks on a margin instead. This means that you only have to pay for 10% of the stock up front and you could borrow the rest. Because of this many people were now convinced that the stock market was the easiest way to make quick and easy money.

ExampleIf you bought $100 worth of stocks you only

would have to pay $10 for it.

By early 1929, everyone wanted to get into the stock market, including large companies and banks. This was a major problem because the banks were investing customers’ money in the stock market (without their knowledge)

With the stock market prices upward bound, everything seemed wonderful. When the great crash hit in October, these people were taken by surprise. However, there had been warning signs.

Playing the Stock Market Team Roles:

1. The Stock Broker You are in charge buying and selling stocks, issuing stock

certificates and closing the stock market2. The Recorder

Responsible for writing down the stocks purchased and sold on the tally sheet

3. The Mathematician (use a calculator!) Tally to make sure that you have $5000 in your envelope Responsible for tallying up the stock profits and/or losses

4. Materials Manager Responsible for obtaining the materials needed to

perform the simulation5. The Reporter

Shares findings with the class

On March 25, 1929, the stock market suffered a mini-crash. It was a prelude of what was to come. As prices began to drop, panic struck across the country as margin calls were issued.

By the spring of 1929, there were signs that the economy might be headed for a serious setback. Steel production went down; house construction slowed; and car sales waned.

At this time, there were also a few reputable people warning of an impending, major crash; however, as month after month went by without one, those that advised caution were labeled pessimists and ignored.

On September 3, 1929, the stock market reached its highest peak. Two days later, the market started dropping. At first, there was no massive drop. Stock prices fluctuated throughout September and into October until the massive drop on Black Thursday.

On the morning of Thursday, October 24, 1929, stock prices plummeted. Vast numbers of people were selling their stocks. Margin calls were sent out. People across the country watched the ticker as the numbers it spit out spelled their doom. A crowd gathered outside of the New York Stock Exchange on Wall Street, stunned at the downturn. Rumors circulated of people committing suicide.

To the great relief of many, the panic subsided in the afternoon. When a group of bankers pooled their money and invested a large sum back into the stock market, their willingness to invest their own money in the stock market convinced others to stop selling.

Black TuesdayOctober 29, 1929, "Black Tuesday," is known as

the worst day in stock market history. There were so many orders to sell that the ticker quickly fell behind. (By the end of close, it had lagged to 2 1/2 hours behind.) People were in a panic; they couldn't get rid of their stocks fast enough. Since everyone was selling and nearly no one was buying, stock prices collapsed.

Rather than the bankers rallying investors by buying more stocks, rumors circulated that they were selling. Panic hit the country. Over 16.4 million shares of stock were sold - a new record.

Not sure how to stem the panic, the decision was made to close the stock market on Friday, November 1 for few days. When it reopened on Monday, November 4 for limited hours, stocks dropped again. The slump continued until November 23, 1929, when prices seemed to stabilize. However, this was not the end. Over the next two years, the stock market continued to drop, reaching its lowest point on July 8, 1932 (when the Dow Jones Industrial Average closed at 41.22).