Bloom and Bust

Over Easter weekend, my family came into town from New Jersey.  I decided to take them to the Cincinnati Zoo and Botanical Gardens, which is one of my favorite places any day of the year but especially right now during Zoo Blooms.  I thought Good Friday would be a nice quiet day to visit but as it turned out everyone in the tri-state had the same idea.  I’ve never seen it so crowded, but with a 75-degree sunny day, it makes sense that people were out in droves to see the animals and the zoo’s gorgeous display of over 100,000 tulips.

While my idea for an activity may not have been unique, I think it’s safe to say that I was probably the only one at the zoo that day thinking about the connection between tulips and the stock market.  It’s an interesting story and one that seems to be relevant given the market environment we’re in right now.

Since the low point of the Great Recession in 2009, the market has been on a sometimes volatile, but rather consistent trend upward.  We’ve endured Eurozone debt crises, fiscal cliffs and sequestration, government shutdowns, Brexit, two presidential elections and a will-they, won’t-they interest-rate dance that’s lasted years.  Yet, here we are eight years into a bull market with the Dow up another 200 points even as I type.  It begs the question – are we in a bubble that’s about to burst?

Of course, the thing about market bubbles is that we don’t know we’re in them until it’s too late.  It’s been that way all the way back to what is considered the first market bubble – Tulip Mania.

In the 1600’s, the Netherlands was one of the wealthiest countries in the world.  Their success in trading with the Far East led to the establishment of the Dutch East India Company, the first multinational corporation, which was financed by shares that established the first modern stock exchange.  Most of the country saw their incomes rise and the wealthy and middle class alike had cash to spend.

One of the items imported from the east during this time was the tulip.  The flower was considered rare and exotic.  It became a status symbol for visiting Frenchmen who would buy them for their wives and for local homeowners who planted tulip gardens to display their wealth.  People became even more enthusiastic upon the arrival of the Mosaic tulip, which as it turned out was simply a normal tulip infected with tulip breaking virus, the symptom of which was beautiful, fiery streaks of color on the flowers’ petals.  These rarest of tulips became the most-favored and before long, people were using their disposable incomes to snap up as many tulips as they could.

Because the flower takes up to a decade to mature and can only grow and reproduce during limited times of the year, people began buying what essentially amounted to futures contracts on them.  They paid for them at current prices with the expectation of taking delivery later, the same way many commodities are sold today.  Eventually, people took to simply buying and selling the bulbs themselves rather than the flowers.  Sellers began to hoard the bulbs, driving supply down and demand sky high.

Tulip trading started to occur all over town, most notably in local taverns in what essentially amounted to drunken gambling.  The right to buy bulbs was trading hands up to 10 times in a single day.  With the expectation that tulip prices would only keep going up, it seemed like a sure way to make money.  And like the bubbles of the modern age, a ‘sure’ way to make money attracts a lot of new investors.

During the height of ‘Tulpenwoede’ or tulip madness, a single bulb was selling for thousands of guilders (former Dutch currency).  People even began accepting tulip bulbs as legal tender.  Owners were selling their homes in exchange for just a few bulbs.  The ultra-rare Semper Augustus bulb could fetch 10,000 guilders – enough to feed, clothe and house an entire Dutch family for half their lives or enough to buy one of the grandest mansions in Amsterdam.  The price of one variety increased over 1100% from December to February of 1637.

Around this time, concerned sellers decided to take their profits and run.  As more and more sellers tried to unload their bulbs to an ever-shrinking group of people who could afford them, prices began to drop rapidly.  No one is exactly sure what caused the selloff to begin, but as the bottom fell out of the market, people scrambled to get any money back on their investment.  No regulations existed to govern how to handle such a crisis and some people skipped out on their contracts altogether.

In what might be one of the first government bailouts, the Dutch government attempted to guarantee a small percentage of people’s contracts but the plummeting value of the bulbs made even that impossible.  The outstanding debts on tulip contracts were litigated for years to come, although fortunately, its impact on the Dutch economy overall was not significant.

If there is any lesson to come out of Tulip Mania, it may be that bubbles have been a part of the market since its very inception.  Whether the market today is overvalued, or whether there is an unforeseen bubble waiting to burst, we don’t know.  But we do know that bust always follows boom and when it happens, you don’t want all your bulbs in one basket.

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