Secrets of Success: Look to history for how the bubble will burst
Saturday 17 July 2004
For serious students of the stock market, there is plenty of new and timely detail to be found in a fresh account of the South Sea Bubble, to be published shortly by Princeton University Press.
For serious students of the stock market, there is plenty of new and timely detail to be found in a fresh account of the South Sea Bubble, to be published shortly by Princeton University Press. Professor Richard Dale, the author of The First Crash, is an emeritus professor of banking at Southampton University. He picks a scholarly but readable path through the events that led to the collapse of shares in the infamous South Sea Company in1720. Only the purblind could fail to draw some important parallels between the events of that year and the bubbles of the more recent past, not least the dot.com mania of five years ago.
Although most people have some recollection of what the South Sea Bubble was about, I suspect that few know exactly what it involved. At a time when the stock exchange was still rudimentary, and the Government remained in debt after years of warfare, the venture was, in essence, an early form of private finance initiative that played on the public's appetite for risk-taking. (In addition to public lotteries, it was possible in the early 18th-century to buy life insurance policies that paid out on the death of well-known public figures).
In return for a charter giving it monopoly rights over trade in South America, the South Sea Company agreed to take over and, in effect, re-finance a big chunk of the Government's debt, passing on the Government's interest payments as dividends to the investors who subscribed for shares in the company. The trigger for the great bubble of 1720 was a series of offers by the company to take on yet more Government debt, with debtholders being offered the chance to convert their holdings into shares in the South Sea Company on seemingly attractive terms.
Throughout the early part of 1720 the price of shares in the South Sea Company and the associated rights to subscribe for shares started to rise rapidly. This process was greatly helped (so it later turned out) by a combination of heavy promotional activity and massive amounts of insider dealing by the directors of the company and key members of the Government, including the Chancellor.
The faster the price of the shares rose, the more new shares the company issued, with the South Sea Company eventually raising in principle a sum far larger than any possible use the company could have had for it. The underlying weakness of the venture was that the company never made enough money from its trading activities to earn a sufficient return above the cost of the vast amounts of capital it was raising.
Two things stand out from Professor Dale's account of the South Sea drama, which ended, after a flurry of speculative mania, in the shares collapsing. First is how sophisticated many of the investment techniques and markets of the time already were. If you thought that derivatives were a modern-day problem, think again: options, contracts for differences and short selling were all part of the South Sea story.
Second, and more interesting, is that a self-taught MP, Archibald Hutcheson, had calculated the growing divergence between the quoted price of the shares and options in the South Sea Company and their intrinsic value. Just as warnings about the folly of the valuations of internet stocks were ignored in 1999-2000, so Hutcheson's warnings about the inevitable collapse of South Sea's shares were overlooked.
Even those well-informed enough to be aware that the scheme must end in disaster convinced themselves that they should take the apparently easy profits as the share price continued to escalate. Figures such as Robert Walpole and Isaac Newton bought shares in the later rounds at prices that in retrospect clearly had no prospect of ever being justified.
By the time of the final round of share subscriptions, the share price, according to Hutcheson, was more than twice the value of all the land in Britain, and at least three times any conceivably rational assessment of its true value. It is a common characteristic of all bubbles that even sensible people start acting on the greater fool theory, assuring themselves that they will get out before the bubble bursts.
The regulatory environment at the time of the South Sea Bubble was loose to non-existent, and it is tempting to use this - and other contingent factors (such as people's shorter life expectancy) - to argue that no lessons can be drawn from such remote historical examples. Professor Dale deals firmly but sensibly with such arguments. In his view, the parallels between the South Sea Bubble and modern-day examples of investor irrationality are exact, though he concedes that the pricking of the bubble in 1720 had surprisingly few wider consequences. Reputations were made and lost, wealth was redistributed (from the gullible to the smart) and after-the-horse-has-bolted reforms were introduced, with little enduring effect. The company limped on, thanks to a debt write-off from the Government and a voluntary reconstruction.
The economy did not suffer unduly, thanks in part to the Government's success in restoring public confidence after the event. The directors of the company were heavily fined and some (though not all) of the politicians who had accepted bribes of cheap shares were publicly humiliated.
The irrationality of the affair, however, which Professor Dale demonstrates by a forensic examination of the difference between the prices of different types of share through the fevered summer of 1720, is something that no legislation can outlaw, because it resides in human nature. We must hope that the property market, which is showing signs of becoming an incipient bubble, can be deflated as successfully.
Independent Partners; Do you need financial advice on your investments, pension or insurance? Book a free consultation with an independent Financial Adviser at VouchedFor.co.uk
Bargain Hunter: Exclusive discount on a SmartGlider - a self-balancing electric scooter
My Tinder date asked for a refund when I declined a second meet up
Number of parents moving to their desired school catchment area is increasing, according to Santander research
Bank-beating exchange rates on your international payments
Renting from a rogue landlord? It’s time to know your rights
- 1 Moscow voted the world's unfriendliest city
- 2 The excuses your boss is most likely to believe when you call in sick
- 3 I'm pansexual – here are the five biggest misconceptions about my sexuality
- 4 More than 11,000 Icelanders offer to house Syrian refugees to help European crisis
- 5 If these extraordinarily powerful images of a dead Syrian child washed up on a beach don’t change Europe’s attitude to refugees, what will?
Climate change: 2015 will be the hottest year on record 'by a mile', experts say
Senior British politicians tell David Cameron: When dead children are being washed up on beaches, it's time to act
Jeremy Corbyn calls Osama bin Laden's killing a 'tragedy' - but was it taken out of context?
If these extraordinarily powerful images of a dead Syrian child washed up on a beach don’t change Europe’s attitude to refugees, what will?
If you're not already angry about the refugee crisis, here's a history lesson to remind you why you really should be
Theresa May says migrants should be banned from entering the UK unless they have jobs lined up
iJobs Money & Business
£14000 - £16000 per annum: Recruitment Genius: This company was established in...
£20000 - £25000 per annum + OTE 40k: SThree: SThree are a global FTSE 250 busi...
£20000 - £25000 per annum + competitive: SThree: SThree are a global FTSE 250 ...
Voluntary and unpaid, reasonable expenses reimbursable: Reach Volunteering: St...
Day In a Page
The terraces of this two-bedroom penthouse apartment offer panoramic views that stretch over fifty miles from the cliffs of Beachy Head.
In the heart of the coastal village of Mumbles and moments from the pier, this five-bedroom Victorian terrace is set over three floors and retains many original features.
In a sandbanks location, moments from the beach, this three-bedroom apartment has a large open-plan living area and a south-west facing balcony.
This four-bedroom home has an annexe accessed from the side of the house, with potential for improvement and conversion subject to the necessary permissions.
In the heart of the hamlet of Wardley, this five-bedroom period home offers countryside views and a stylish interior, with original features and open fireplaces.
Offering countryside views and landscaped gardens, this three-bedroom Grade II-listed lodge has a spacious conservatory and a large cellar that could serve as a workshop.
Set in approximately 1.5 acres, this four-bedroom home comes with a second, detached property that's currently used as an annexe.
In the hamlet of Newchurch, this former parish church is now a four-bedroom home complete with clock tower and eyrie.
Offering scenic views from a large balcony and sun terrace, this four-bedroom home has a wraparound garden and a heated swimming pool.
Offering views across the Humber and East Yorkshire Wolds from a glass panelled balcony, this four-bedroom barn-style home befits a life of leisure.
This four-bedroom home offers versatile accommodation with annexe potential; features include a hot tub, sauna and Norwegian BBQ hut.
Well-located for schools, colleges and the town centre, this contemporary thatched cottage offers flexible living space with six bedrooms.
Built in 1907, this four-bedroom Edwardian period home has been refurbished by the current owners, retaining many original period features.
Surrounded by landscaped gardens, this five-bedroom home offers living space across three floors.
This lovely country home in Burnham Market is currently run as a popular holiday cottage, with five en suite bedrooms and colourful gardens.
This three-bedroom 17th-century former village bakery is just a few miles from the East Sussex coast.
Set on a landscaped plot, this light and airy four-bedroom home comes with a log burner in the lounge, a fitted kitchen and an open-plan ground-floor layout.
Set sail for this four-bedroom farmhouse in Cowes. With five acres of land and an indoor pool, this home oozes character. There is even potential to let a one-bedroom annexe.
Built on a former chapel site, this impressive four-bedroom home boasts balconies, stunning views and contemporary modern living.
This three-bedroom house is situated in a quiet mews and set over three floors. Features include glazed staircases and high ceilings.
A period townhouse set over four floors, this five-bedroom home was built in the 18th Century and retains many original features.
With five bedrooms, this spacious home offers beautiful gardens and modern interiors - set within the popular market town of Bingley.
A few miles from the seaside at Perranporth, this four-bedroom farmhouse sits amongst nine acres of idyllic grounds - including a lake and two barns used as holiday lets.
In the pretty market town of Bungay, this grade II-listed Mill House is arranged over four floors, offering four bedrooms and three reception areas.
This first-floor flat comes with two bedrooms, an impressive open-plan reception room and two lovely roof terraces.
This five-bedroom home comes with a range of outbuildings including a large barn which could be converted into a self-contained granny-flat or rental.
Moored at Taggs Island and reached via a pretty garden, this two-bedroom houseboat has a vaulted reception room and skylit garden studio - currently a beauty salon.
On the edge of the city, this six-bedroom home comes with an outdoor swimming pool and a large garage block that has annexe potential.
A contemporary house spread over three storeys, this three-bedroom detached home has large sliding doors that open out to the River Quaggy.
Moored in Chelsea's Cheyne Walk, this houseboat offers two double bedrooms and a teak deck that's ideal for al-fresco dining.
This former village bakery, dating back to the 17th century, is now a three-bedroom detached home just a few miles from the East Sussex coast.
On the picturesque Isle of Man, this four-bedroom character home has a ground-floor shop that's currently run as a newsagents and a flat that would make an ideal holiday let.
In a new collection of flats, this first-floor two-bedroom apartment offers ample entertaining space and a prime view of Furze Green from a private balcony.
This three-bedroom stone-built cottage currently trades as the village store with a restaurant in the annexe and family accommodation on the upper floors.
Previously two semi-detached properties, this five-bedroom home is spread over three floors with a large breakfast kitchen, orangery, office and gym on the second floor.
This five-bedroom home enjoys countryside views over the Blyth estuary to Southwold, offering flexible living space with a ground-floor annexe - ideal for use as a holiday let.
Close to the market town of Eye, this four-bedroom detached home offers a double-height living room which takes the place of the original, 19th-century, chapel nave.
Dating back to the 19th century, this four-bedroom home needs modernising. Spanning three storeys, the red-brick house has a fireplace, a small terrace and a cellar.
Just outside of Cambridge, this single-storey home offers three double bedrooms, a living room with vaulted timber ceiling and ladder steps that lead to a mezzanine study area.
This six-bedroom Georgian home is on three floors with open fireplaces, a two oven Aga, an annexe, and cottage gardens with outbuildings and a car barn.
A former coach house, Glebe Farm Stable is now a three-bedroom cottage with a double car barn, an attached office, kennels and an outbuilding that's currently used as a gym.
Located beside an impressive Victorian viaduct, this four-bedroom home has an open-plan living area that is glazed on two sides, with skylights and high ceilings.
A former furniture workshop, this three-bedroom home has high ceilings and painted brick walls, in a village setting only fifteen miles from the coast.
This five-bedroom stone townhouse features a pine staircase and an Inglenuk fireplace, double doors from the lounge give access to an enclosed courtyard.
This five-bedroom, detached home blends traditional and modern design; the sleek kitchen features a gas hob and oven set within an exposed chimney breast.
Capitalise on the fabulous views of Trevone Bay by taking two homes and creating one spacious boutique B&B. Just a cliff-top walk from Padstow.
Surrounded by woodland, this five-bedroom manor house has plenty of outdoor storage space in the form of three converted loose boxes, two smaller outhouses and a woodstore.
This six-bedroom home is set amongst three acres of grounds. Currently a large family home, Clift Hill has potential to make a B&B or countryside retreat, subject to change of use permissions.
This Grade II-listed three-bedroom home is situated on a private road, just a short walk from the sandy beaches of Frinton-on-Sea.
Less than five miles from Malmesbury, this four-bedroom cottage comes with equestrian facilities and gardens that extend to approximately three acres.