The South Sea Bubble
Where: United Kingdom
The Fall: Stocks in the South Sea Company traded for 1000 British pounds and when the company was finally liquidated the shareholders received 33 pounds for each share.
Piquant aspects: Newton doubled his money in the South Sea Company. He made a profit of 7,000 pounds and then the hype got to him again. He re-entered again at the peak and lost 20,000 pounds, which amounts to around Rs 200,000 crores adjusted for 5% inflation. Yes Rs 2,00,000 crores. It was then that Newton said " I can calculate the motion of heavenly bodies but not the madness of people". Did any one say that even Newton could not defy the laws of gravity
- John Blunt having connections with influencing politicians beat the Bank of England in a bid to take over the Govt. debt of 7.5 million pounds by issuing equity of the South Sea Company.
- The idea was to compensate the debt holders with the stock of the company . At the time of the act being passed in parliament the stock traded at 128 pounds. Blunt thought that the price could be driven up to 300 pounds and the debt extinguished by providing lesser number of over valued stock instead of cash. The remaining shares could be re-issued since the debt could be exchanged for a lesser amount of shares.
- The company purchased the "rights" to all trade in the South Seas. The companies that offered stock at that time were all solid but extremely illiquid buys. For instance the East India Company that paid substantial tax-free dividends had a meager 499 investors. A large section of the population had money to invest and was unsuccessfully looking for companies to put in their money. At that time The South Sea Company perceived to be the most lucrative monopoly on earth.
- Cashing in on the scarcity for ownership paper The South Sea Company successfully placed its shares at 300 pounds and 400 pounds respectively in April 1720.
- The popular conception was that huge amounts of gold and jewels could be received in exchange for wool and fleece by trading with the Mexicans and the South Americans. Nobody questioned the repeated re-issues of stocks by the South Sea Company--people just bought the expensive stocks as fast as they were offered
- This was followed by another innovative scheme where investors were allowed to buy the stock at 1000 pounds on installments by making an up front payment of 10% ie.100 pounds.
- A domino effect of progressively lower prices took people by surprise as everyone tried to sell. As price began to slide people panicked and rushed to sell regardless of the losses
- Buoyed by the ease with which money could be raised other companies rushed in to offer shares in a bid to make a quick buck.
- Sensing that this new supply would create competition for speculators' money Blunt filed writs against these companies, which he claimed were operating illegally.
- The Court upheld his petition and some of the outlawed stocks collapsed triggering a margin call since everyone had been investing on margin.
- The shares of the South Sea Company also joined in the decline and it collapsed from around 1000 pounds in July at about 200 pounds in September.
- Blunt tried to persuade the Bank of England for financial assistance to stabilize the shares at 400 pounds but the Bank refused. The fraudulent promoter had already cashed out of his personal holdings by then.
- When questioned Blunt argued that he did not remember anything out of the transaction but later testified that the object of the company was to defraud the investor under the garb of lucrative business opportunities. The company's treasurer eloped from town while some of the directors were forced to return back some money.
- The company was finally wound up with the shareholders receiving 33 pounds per share