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Kindleberger and Aliber’s book “Manias, Panics and Crashes” describes dozens of booms and busts, and looks for common characteristics. In today’s newsletter I’ll start to summarise some of the most interesting bubbles to try to get a grasp of share market manias and crashes (rather than bank-led manias, property manias, commodity manias, or other types).
Markets on the rise often have two stages
Stage one
A measured response. Good news events, e.g. the advent of powerful new technology – railways, automobiles, tech etc. – leads to a sober response from households, firms, and investors as they anticipate better times. Additional income will flow from the innovations or other advances therefore higher prices of those assets with claims over that income, dividends, rent, etc., makes sense.
Stage two
Speculation on asset prices. Buyers of assets, from real estate to shares, start to buy on the basis of anticipated appreciation of prices of the principal asset. They now pay little attention to the income flows from the underlying and lay more emphasis on the speed of asset price rises and the possibility of selling on to someone else.
Tulipmania
In seventeenth century Holland there was great excitement about investing in rare tulip bulbs. Prices had been rising already, then in September 1636 bulbs were planted for the next crop. They would not be seen again for 6-8 months while they grew and produced baby bulbs.
Buyers started to commit to buying bulbs hidden in the ground in anticipation of taking possession of lots of bulbs with rare markings in the spring. They could not see them, but they speculated on them.
Prices rose several hundred percent in autumn/winter 1636. A pound of a fairly ordinary variety would sell for the equivalent of a down payment of four cows, with much more required on delivery in June. Land and houses were used to make down payments for a handful of bulbs. Some single tulip bulbs sold for more than 10 times the annual income of a skilled worker, or 1,000 lbs of cheese.
The mania was fuelled to a considerable degree by credit: the seller of bulbs offered credit to the buyer (it was more a ‘futures’ market).
Of course, all was to end badly. The trigger was an outbreak………………….To read the rest of this article, and more like it, subscribe to my premium newsletter Deep Value Shares – click here http://newsletters.advfn.com/deepvalueshares/subscribe-1
