Value Investing

Howard Marks South Sea Bubble Memo From 2000

A classic!

Howard Marks South Sea Bubble Memo From 2000 by Oaktree Capital

Memo to: Oaktree Clients

From: Howard Marks


The book “Devil Take the Hindmost” by Edward Chancellor does an excellent job of chronicling the history of financial speculation. In doing so, it recounts the story of “the South Sea Bubble” and provides a backdrop against which I’d like to examine some of the events of today.

The South Sea Company was formed in 1711 to help deleverage the British government by assuming some of the government’s debt and paying it off with the proceeds of a stock offering. In exchange for performing this service for the Crown, the company received a monopoly for trading with the Spanish colonies in South America and the exclusive right to sell slaves there. Demand for the company’s stock was strong due to the expectation of great profits from these endeavors, although none ever materialized. In 1720, a speculative mania took flight and the stock soared.

Sir Isaac Newton, who was the Master of the Mint at the time, joined many other wealthy Englishmen in investing in the stock. It rose from £128 in January of l720 to £1,050 in June. Early in this rise, however, Newton realized the speculative nature of the boom and sold his £7,000 worth of stock. When asked about the direction of the market, he is reported to have replied “I can calculate the motions of the heavenly bodies, but not the madness of the people.”

By September 1720, the bubble was punctured and the stock price fell below £200, off 80% from its high three months earlier. It turned out, however, that despite having seen through the bubble earlier, Sir Isaac, like so many investors over the years, couldn’t stand the pressure of seeing those around him make vast profits. He bought back the stock at its high and ended up losing £20,000. Not even one of the world’s smartest men was immune to this tangible lesson in gravity!

* * *

It’s obvious from “Devil Take the Hindmost” that many elements of speculative behavior were present during the South Sea Bubble. I’ll cite some of its passages below and point out the parallels to today that I see:

“The ideology of self-interest had recovered after the battering it received after the crisis of the mid-1690s … its thesis [was] that private vices – avarice, prodigality, pride and luxury – produced public benefits.” [Sounds like the “greed is good” rationalization of the 1980s.]

The success of South Sea spawned talk of any number of speculative schemes, some of which was probably apocryphal. “The most famous of the legendary bubble companies was that ‘for carrying on an undertaking of great advantage but no one to know what it is.’” [I can’t understand what it does, but that’s okay; just tell me the name, II. or maybe the symbol’s enough.]

Despite their lack of profits, companies like South Sea were able to finance their operations by issuing stock at higher and higher prices. “The circularity inherent in the scheme made a rational calculation of the shares’ fair value difficult to compute. Some argued that the higher the shares rose, the more they were actually worth …. ‘Was there ever such a delusion from the beginning of the world … according to this Way of Computing, no Person can Purchase at too high a Rate, since his Profit will increase in Proportion to the Price he gives.’” [There’s no such thing as too high a price if the concept is right, and the ability to issue stock at rising prices will lead to profitability.]

“Adam Anderson, a former cashier of the South Sea Company, later claimed that many purchasers of shares … bought knowing that their long-term prospects were hopeless, since they aimed to get ‘rid of them in the crowded alley to others more credulous than themselves.'” [The greater fool theory is nothing new.]

“As Edward Ward observed in his poem ‘A South Sea Ballad’:

Few Men who follow Reason’s Rules,

Grow fat with South-Sea Diet,

Young Rattles and unthinking Fools

Are those that flourish by it.”

[The profits went to those unrestrained by reason or experience.]

Robert Digby wrote “The South Sea Company is continually a source of wonderment. The sole topic of conversation in England revolves around the shares of the Company, which have produced vast fortunes for many people in such a short space of time. Moreover it is to be noted that trade has completely slowed down, that more than one hundred ships moored along the river Thames are for sale, and that the owners of capital prefer to speculate on shares than to work at their normal business.” [The name of the company was on everyone’s lips, the fortunes it created were front-page news, and the average Joe was willing to give up his day job to participate … sound familiar?]

* * *

Howard Marks South Sea Bubble Memo From 2000

See full Howard Marks memo below.