How financial stocks look vs. history’s biggest market busts

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When investors turn rabidly bearish on a stock market sector, history shows they can sell it down to levels that almost no one could have imagined in the good times.

That ought to give owners of financial stocks another reason to fear that the worst isn’t over.

Bank, brokerage, insurance and other financial shares led Wall Street’s sell-off on Wednesday, which drove most major stock indexes to fresh bear-market lows.

It hurts that the Standard & Poor’s 500 index now is down 48.5% from it record high reached 13 months ago. But many owners of financial issues might be grateful to have lost just 48.5%.

An index of 84 financial stocks in the S&P 500 plunged 11.6% on Wednesday, and now is down 72.6% from its all-time high reached in Feb. 2007.

Enough, already? Maybe. Except that the most devastating bear markets have slashed considerably more than 72.6% off share prices before the selling ended.

I took a look at some of history’s biggest declines in broad market indexes and in sector indexes, just to see how bad things have gotten. Here’s my short list:

--- In the tech-stock crash of 2000-2002, the Nasdaq composite index sank 77.9% from its peak to its trough. And the Inter@ctive Week index of stocks closely tied to the dot-com boom gave up 91.5% of its value by the time it bottomed.

--- Reaching back to the Great Depression, the Dow Jones industrial average sank 89.2% from its high to its low in 1929-1932.

--- Japan’s Nikkei-225 index which peaked at the end of 1989, just hit a new low on Oct. 27, for a 19-year net drop of 81.6%.

--- In the current bear market, shares of home builders are down 85.7%, on average, using the S&P index of 15 major builder stocks as a proxy.

Now, equating financial stocks with dot-coms is a stretch, I realize. Most of the financial issues in the S&P 500 are real businesses, whereas many dot-com issues were little more than pipe dreams that somehow got funded, then flamed out without ever turning a dime of profit.

Even so, real businesses go out of business all the time. Given the list of financial mega-failures and nationalizations this year (Lehman, Fannie, Freddie, AIG, etc.), it isn’t absurd for some investors to think of Citigroup Inc. shares -- which sank 23% to $6.40 on Wednesday -- as heading for the same fate as shares of Pets.com.

I’m not saying Citi’s shares are going to zero. As taxpayers, we all now own some of Citi, so I guess we should be rooting for it. But people who are selling out at these prices must believe there is worse to come before this finally stops.

The cold reality is that, in the final stages of a bear market, nobody’s thinking about fundamentals or logic. Raw emotion is what drives stocks. That’s how declines of 80% or 90% can occur.

Some financial issues must be spectacular bargains right now for investors who can look out a couple of years. But as long as the overriding mentality is, ‘Maybe they’ll get even cheaper,’ they probably will.