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A Fool Goes to History Class: How the Very First Investment Bubble Grew

By Motley Fool Staff – Oct 14, 2016 at 2:06PM

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We’ve got some back-to-school lessons to share, class, so settle down and pay attention.

School is back in session, and in honor of that, the Motley Fool Answers duo of Alison Southwick and former middle-school teacher Robert Brokamp are taking you back to the classroom -- virtually speaking. In this segment, they look back at asset bubbles. And if you think the dot-com bubble of the 1990s or the housing bubble in the 2000s was overheated, then you won't believe how wild things got back in the 1600s around tulip bulbs. (And maybe you shouldn't.)
A full transcript follows the video.

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This podcast was recorded on Sept. 13, 2016

Robert Brokamp: Which class are we in now, teacher?

Alison Southwick: It's time for history class.

Brokamp: Yeah! My favorite subject.

Southwick: Oh, I stole your favorite subject, because I called dibs on which subjects we get to do.

Brokamp: It's fine. I'm going to learn something. That's even better.

Southwick: Maybe. I know I couldn't teach you anything since you're best friends with Harry Markowitz. I think I am going to teach you something about the tulip mania, supposedly the very first speculative bubble. I think most people have heard of it, but just to recap.

The tulip mania of the 17th century. If had a big white board or chalkboard, this is what I would be writing down. The tulip, Robert, was like any other flower that came before. They were bright and vibrant, and they survived well in the low country. Why are you laughing at me?

Brokamp: You're doing a great job of teaching this with your demonstrative thing that no one else can see...

Southwick: Thank you. I'm using my hand.

Brokamp: ...unless they're watching the video.

Southwick: During the Dutch Golden Age, as Holland grew into a world power, the tulip also grew in popularity. Tulips eventually became the fourth-most popular export after gin, herring, and cheese. Which sounds like a party. They make good cheese in Holland. I'll give them that. I don't know about the gin and the herring, but whatever.

So things got interesting around 1634 when the demand grew for bulbs, so much so (in other countries like France) that speculators were brought into the market. I actually don't have a good definition for a speculator. How would you define a speculator?

Brokamp: I would say it was somebody who was buying something only as an investment and is doing so, generally, as a short-term investment.

Southwick: Just turn it around. So eventually the Dutch created a futures market, and bulbs stopped changing hands altogether, but the contracts for the tulips kept moving around. The called it "windhandel," which literally meant a "wind trade." I thought that was kind of cool. Some futures contracts were being traded 10 times a day. Then the bubonic plague happened.

Brokamp: Oops!

SouthwickWomp womp! And the market collapsed. Which is not surprising.

Brokamp: It's hard to diversify against plague risk.

Southwick: It is very hard, as we have learned. So fast forward 200 years, and the tulip mania was largely forgotten until a book was written by Charles Mackay. It was called Extraordinary Popular Delusions and the Madness of Crowds. That sounds like a pretty good book.

Brokamp: It's a good book.

Southwick: Have you read it?

Brokamp: I have read excerpts, and it's generally considered one of the great books about risk management and the history of risk.

Southwick: Well, I've got some bad news for you.

Brokamp: Uh-oh.

Southwick: It took a closer look at tulip mania and other bubbles, and in the book, Mackay talks about the tulip mania this way. "The population, even to its lowest dregs, embarked in the tulip trade. By 1635, the sales of 40 bulbs for 100,000 florins," (also known as Dutch guilders, by the way), "was recorded, and by way of comparison, a ton of butter cost about 100 florins."

Brokamp: A ton of butter?

Southwick: That's what he wrote. "A skilled laborer might earn 150 florins a year, and eight fat swine cost 240 florins." Everyone believed him until the 1980s, when people began to doubt that it really was all that big of a deal.

Brokamp: Interesting.

Southwick: Yes. In 2007, Anne Goldgar wrote Tulipmania and concluded that many of the stories around tulip mania, including what Charles Mackay wrote, probably weren't even true. For example, one story told how a sailor accidentally ate a tulip bulb that was worth more than what it would have cost to feed the whole crew for a month. Probably not true.

And she also found out that there weren't really that many people in involved in the speculative market of tulips. And while yes, the price of tulips did rise and fall significantly. Maybe six people, she said, took a serious financial hit when the bottom fell out.

Brokamp: Really!

Southwick: Yes! So when it comes to bubbles, what's generally regarded as the godfather of them all, tulip mania, was actual more on par with Beanie Babies than, say, the housing bubble. But thanks to the media and the book that Charles Mackay wrote, we all know about it, and we all thought it was a big deal. So nothing changes.

Brokamp: So there was a bubble in the story of this bubble, and eventually it was popped.

Southwick: Yeah, but it's like a different kind of bubble, I guess.

Brokamp: Yeah.

Southwick: Yeah. So your bubble was popped.

Brokamp: My bubble's been popped. Oh, my gosh.

Southwick: So that's your history lesson for today. The tulip mania of the 17th century -- and it's still held as the classic story of mania...

Brokamp: In your research, did you find out any... Now I don't know if it even mattered, or not, but when you mention the top exports -- the herring and all that...

Southwick: Herring, gin, and cheese...

Brokamp: But that's stuff that you can eat and consume, and I always wondered what the big deal was about tulips. There are plenty of beautiful flowers in the world. Why did the mania spread?

Southwick: You can't eat Beanie Babies, either.

Brokamp: That's true, but why wasn't there a rose bubble? What about the tulip caught everyone's imagination?

Southwick: Oh, I told you. Didn't you hear my sweeping ode? It is vibrant, and bright, and it survived well. Apparently tulips have such a beautiful and high saturation of color that was unlike anything other people had seen. And there was also this virus that made tulips a little bit more wacky and weird, and that was really prized, as well.

Brokamp: Interesting.

Southwick: I don't know. Why does anyone like anything?

Brokamp: That's a good question. I wonder how I ever got dates in high school.

Southwick: Oh. You were a tulip among men.

Brokamp: Thank you very much.

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