Cockroach Theory

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DEFINITION of 'Cockroach Theory'

A market theory that suggests that when a company reveals bad news to the public, there may be many more related negative events that have yet to be revealed. The term comes from the common belief that seeing one cockroach is usually evidence that there are many more that remain hidden.

BREAKING DOWN 'Cockroach Theory'

For example, in February 2007, subprime lender New Century Financial Corporation faced liquidity concerns as losses arising from bad loans to defaulting subprime borrowers started to emerge. This company was the first of many other subprime lenders that faced financial problems, contributing to the subprime mortgage meltdown.

In other words, the fact that one subprime lender (one cockroach) faced financial problems indicated that many other similar businesses were likely to face the same issues.

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