Considering financial markets are cyclical, in this series we will introduce some of the most famous financial "bubbles" in history. Why are we highlighting this? In all bubbles situations we see a large number of investors ‘chasing the market’ only to be hurt financially afterwards. As an investor what can we learn from these financial bubbles? We will explore some of these examples together:

 

 

Tulip Mania

 

17th Century, Netherlands

 

Craziness Level: 2.5 Stars

Duration: 3 Years

 

In the 17th century Netherlands, a sea merchant brought an Arab flower that attracted the attention of countless people, and named it “tulip”.

 

Because this flower was so rare and they came in all kinds of bright colors and textures, they were quickly sold out. People waited in the shops and at the ports for the next cargo ship to enter the port. They would ask the crew: Do you have tulips on board? If the answer was “no”, everyone would leave with regrets.

 

In a few months, the price of the tulips has jumped hundreds of times. A high-grade tulip was worth thousands of Dutch guilders, the same price as a ship. Some people started to use the tulip flower as a mortgage loan. In a short period of time, this flower became an alternative currency Netherlands.

 

When tulip prices hit the ceiling, even the aristocrats who originally loved it were reluctant to buy anymore. The tulips thus lost many buyers who were interested in them beforehand.

 

Until the bubble burst, there were up to 3,000 people who borrowed to buy the flower and were heavily burdened with debt as a result.

 

 

 

The South Sea Bubble

18th Century, England

Craziness Level: 3 Stars

Duration: 8 Months

 

On the surface, the South Sea Company was a concessionaire specializing in trade between the UK and South America. However, it was in fact a private institution that assisted the government in financing and shared the debt owed by the government due to the war.

 

In 1720, the South Sea Company launched a plan that exchanges stocks for government bonds in order to bribe the government. This prompted their stock to become highly popular among investors. The stock price soared from about 120 pounds to more than 1,000 pounds in six months.

 

During that time period, everyone was crazy about the South Sea Company stocks, including Sir Issac Newton.

 

However, in the same year, the National Assembly issued the "Bubble Act 1720" in order to stop illegal trades that purposefully raised the stock price, and the stocks dropped sharply.

 

As a result, the South Sea Company’s share price plummeted back to below 190 pounds in September, and many investors lost a significant amount of their money.

 

 

The Mississippi Bubble

 

18th Century, France

 

Craziness Level: 3 Stars

Duration: 2 Years

 

The Mississippi River Basin was once a French colony and criminal exile. In 1717, a businessman, John Law, bought the Mississippi Company. At that time, the French government was in war and faced with economic difficulties and heavy debt.

 

In 1716 Law convinced the French government to let him open a bank, the Bank Generale, that could issue paper money, or bank notes. The paper notes would be supported by the bank's assets of gold and silver and would circulate as a medium of exchange.

 

The French government promised to give the company 25 years of monopoly power, coupled with its own strong financial resources, Mississippi developed the French East India Company and the French Bank.

 

Many investors were attracted to the Mississippi Company because of the potential of its future prosperity. At that time, the Mississippi company's stock could be exchanged for French government bonds, which was a very special trading model that attracted almost all French citizens to sell out government bonds to buy the company’s shares. In order to make the stock price rise, John Law decided to issue more currency.

 

In just six months, the stock price rose from 500 riviers to 18,000 riviers, a 36-fold increase.

 

However, in the summer of 1720, the company’s unprofitable reality was exposed, and the investors’ confidence in the company was greatly reduced. People started to realize that the paper money in their hands was not worth much and began to sell their stocks.

 

The stock price fell back to 500 livres within a year. John fled to Italy to escape legal sanctions.

 

This bubble not only caused many people to go bankrupt, but also greatly damaged the French economy.

 

So what did we learn? Regardless of what type of investment you make, it's all about balancing return and risks. Having a solid systematic investment plan as your anchor and not chasing the ‘hottest’ investment is the best plan of action for a smart investor.

 

We’ll highlight more interesting financial bubbles in our next blog article.

 

 

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