The First Crash: Lessons from the South Sea Bubble - Tuesday 17^th June 2008

"At one end of the Coffee House, South Sea Stock was sold at 1,000 – the other end at 920..."

IN THE FIRST six months of 1720, shares in the South Sea Company rose almost 500% in price. The bust that followed – part of the world's first international financial crash – wiped out thousands of investors, triggered a tax-funded rescue, and left behind anti-stock market laws that stood for well over a century.

   Sound familiar? Aristocrats and politicians alike had crowded into the coffee houses of London's Exchange Alley to buy options on South Sea stock, buoyed by the promise of untold riches shipped across the Atlantic from Spanish America. They were sucked in alongside Britain's fast-growing merchant class, as well as the "middling sort" who borrowed money to bid the shares higher.

   Even the Master of the Royal Mint, Sir Isaac Newton, was rumored to have lost £20,000 – worth perhaps several million in today's money – when the inevitable bust came. Because, as a trading business, the Company earned next-to-no income. It's only hope of a paying a dividend lay in finding ever-more new investors. And there lies its lesson today.

   Almost 300 years later, the South Sea Bubble still gives warning against financial folly and greed. As an account of London's first financial bubble and bust, however, The First Crash goes far deeper than the mass-market histories published when Enron and Worldcom imploded amid the DotCom Crash at the start of this century.

   Studying pamphlets, letters, Parliamentary records and breathless newspaper accounts, Richard Dale shows what drove investors to such irrational behavior, first piling into the Mississippi Bubble across the Channel in Paris, and then moving their money into the South Sea Company in London.

Come June 1720, he writes:

   "The emergent financial markets of Europe were witnessing the first international crash as investors sought refuge in safe haven assets. Exchange rates, international capital flows, and share prices reflected a growing sense of panic.

   "The fear of default threatened a seizure in credit markets and there was an ominous search for scapegoats, evidenced in its most extreme form by anti-semitic rioting in Amsterdam."

   Take note: The First Crash does little to translate or explain in everyday language the financial dealings of John Blunt, the South Sea Company's well-connected promoter. (He'd learned his trade running lotteries). Nor does Dale – professor of international banking at the University of Southampton – shrink from applying modern valuation techniques to show how contemporary analysts uncovered the true worth of Blunt's scheme.

   But as a detailed and scholarly history of the South Sea Bubble and bust – written with a keen knowledge of how today's financial markets work – The First Crash can't be beaten.