Roger Sorenson who is the editor at Investing Page put together this little piece on how crazy things can get when speculation takes over a market. After reading it you might think that a similar case could never happen again, but never underestimate the power of perceived easy money and speculation can have:
Popular Delusions And Crowds Madness
“Sober nations have all at once become desperate gamblers, and risked almost their existence upon the turn of a piece of paper. To trace the history of the most prominent of these delusions is the object of the present pages. Men, it has been well said, think in herds; it will be seen that they go mad in herds, while they only recover their senses slowly, and one by one.” – Charles MacKay, 1841
Have you heard about the speculative tulip bulb craze which took over in seventeenth-century Holland? At the peak of the mania, a single tulip bulb was selling for the equivalent of an unthinkable $150,000 (it might also have been an even more amazing $1.5 million, depending on which historian is doing the talking). This story is true, it really happened, and it could happen again.
Back in 1559. a man named Conrad Gestner brought the first tulip bulbs from Constantinople to Holland and Germany with the people there quickly falling in love with them. it wasn’t too long before tulip bulbs became a status symbol for the wealthy — they were considered extraordinarily beautiful and difficult to get.
At first it people who truly prized the beauty of tulips that purchased them, but it didn’t take long before speculators got involved. Soon many of the tulip buyers were merely in it for the money. These speculators created trading activity, and eventually tulip bulbs were placed onto the local market exchanges. By 1634, the demand to own tulips had spread from the wealthy class into the middle classes of Dutch society. Merchants and shopkeepers began to vie with one and another for single tulip bulbs.
How bad did it get? Consider the following. By the height of the tulip bulb bubble in 1635, your could offer to trade a bed, a suit of clothes and a silver drinking cup for a single tulip bulb and you would be laughed at as if you were crazy. If added to those were eight pigs, four oxen and 12 sheep, you’d maybe have a down payment on a bulb. Even if you threw in four tons of wheat, eight tons of rye, two tons of butter and 1,000 pounds of cheese you’d be short. It would take an additional two casks of wine and four tons of beer before you could make a trade for a single tulip bulb!
Things became so bizarre that people were selling everything they owned – their homes, their livestock, everything – to buy single bulbs on the expectation that the bulbs would continue to grow in value. By 1636, tulips managed to make their way onto the Amsterdam stock exchange which further accommodated the speculators and gamblers who had become the primary purchasers of tulip bulbs.
Tulip notaries and clerks were appointed to record transactions, and public laws and regulations were developed to control the craze. Late in 1636, a few tulip owners began to liquidate their holdings. At first prices began to weaken slowly, then more rapidly as confidence was destroyed. It wasn’t before long that panic seized the market.
Within six weeks, tulip prices crashed by 90%. Defaults on contracts and liens on owners were widespread. The Dutch government refused to interfere. Instead, it simply advised tulip holders to agree among themselves on some plan to stabilize prices and restore public confidence. Eventually assembled deputies in Amsterdam declared null and void all contracts that were made at the height of the mania. Tulip contracts made after November 1636 were settled if buyers paid merely 10% of the prices to which they had earlier agreed.
Tulip prices continued to fall. Next, the provincial council in the Hague was asked to invent some measure to stabilize tulip prices and public credit. Tulip prices continued to fall. In Amsterdam, judges regarded tulip contracts as gambling activities and court rules held that gambling debts were not debts in the eyes of the law. No court in Holland would enforce payment. Tulip collectors, speculators, and gamblers who had tulips at the time of the collapse were left with ruinous losses.
Tulip prices soon plunged past the present equivalent of a dollar each. Is it possible for you to imagine buying an investment for $76,000, only to discover six weeks later that it was worth no more than one dollar? Commerce in Holland suffered a severe shock it did not recover from for many years.
Now I know you are thinking “What kind of fool would possibly get caught up in that?” We are, after all, talking TULIPS here – not food, shelter, clothing, or firearms! TULIPS! What could cause people to lose such control of their senses?
I believe the answer is greed. Instead of building the value of their portfolios carefully and with understanding, they went for the quick buck. As long as it looked like the sky was the limit, nobody wanted to accept the fact that they were buying very expensive tulip bulbs.
Do you think people are too smart to fall for this kind of speculative risk today? Do you remember the Internet Craze of the late 90′s? Otherwise how about these great investment words: Beanie Babies.