I love a good conspiracy theory. Most everyone I know does too. That’s because when something unexplainable happens, like an extreme stock market plunge or earthquake, it’s only natural to want to cobble together an explanation… even if it isn’t entirely rooted in facts.
Having spent the last decade on Wall Street, I’ve heard some doozies. Most of them try to prove that the stock market is rigged against the individual investor. But one 30-year-old conspiracy theory says that there is a secret cabal working in Washington, D.C. for investors. It is called the Plunge Protection Team (PPT for short). Its job is to ensure an orderly stock market and protect investors from sudden crashes.
It’s a nice fairy tale for investors. However, it isn’t one that ends with “happily ever after.” Even if the group really does exist, it hasn’t done a great job over the years.
Last week’s market plunge is a great example. The major indices began to sell-off last Wednesday over fears, and losses accelerated into the close. The carnage continued on Thursday at a sickening pace.
No one stepped in to buy the market. There was no sign of the PPT.
Last week’s market correction shows that you can’t count on this secret government organization to backstop your retirement. But you should count on trailing stops to protect your profits and prevent you from taking big losses.
The Making of a Conspiracy
Like any good conspiracy theory, the PPT idea is founded in facts.
After the 1987 stock market crash, a team known as the “Working Group on Financial Markets” was created by Executive Order 12631. As president, Ronald Reagan signed it into law in 1988. Its purpose was to maintain investor confidence in the financial markets. Not much else is known about the group other than it counts the president, secretary of the Treasury, Fed chairman and SEC chairman as members. Exactly what it does isn’t public knowledge.
In 1989, former Fed board member H. Robert Heller fanned the flames of the conspiracy when he suggested that the Fed could support the stock market by buying market averages in the futures market.
Shortly thereafter, the legend of the PPT was born.
Since then, many Wall Street short sellers have blamed the PPT for the market’s knee-jerk recoveries. They believe that the PPT has rigged the market and that every time the market plunges, the PPT will step in to buy, buy, buy – reversing the dives so that the market can continue heading in the government’s preferred direction: up.
Unfortunately, history shows it doesn’t work that way. That’s why it’s so important that investors manage their own risk with trailing stops. The PPT is just too unreliable.
The PPT Falls Short of Expectations
Of course, if the PPT is a real government organization, it hasn’t done a great job steadying the markets or increasing investor confidence.
It failed to prevent the dot-com bust at the turn of the century when the S&P 500 fell more than 49% between March 2000 and October 2002. It also failed to prevent the burst of the housing bubble and the subsequent Great Recession in 2007. The S&P 500 fell 56.4% in just 17 months.
Americans who failed to use trailing stops saw their savings wiped out in a matter of months. Their savings that were accumulated over years and decades were gone. These unfortunate investors received no help from the government or the PPT.
However, disciplined investors utilizing their stop losses were able to exit the stock market with much of their wealth intact. Their money lived to be invested another day. These investors were able to make it all back (and more) during one of the longest stock market bull runs in history.
Stop Your Own Losses
The PPT also failed to prevent last week’s painful market correction. I’d argue that if it exists, the PPT didn’t see last week’s plunge coming.
So while it’s fun to speculate about the PPT, I wouldn’t put much stock in the idea. If it does exist, it has an abysmal track record of protecting your portfolio. So don’t rely on a conspiracy theory to protect your wealth.
Trust in trailing stops and stick to your discipline. Remember, it’s up to you to stop your own losses.