What happened to Sir Isaac Newton in 1720 might have a lesson for tip-hungry Robinhood traders in India and elsewhere, who sometimes try to judge a stock based on its name, or shun an IPO because of bad publicity only to discover that it has ended up delivering 75 per cent returns in just five months of listing.
Minneapolis-based mathematics professor Andrew Odlyzko dug out archives to find out how none other than the brilliant physicist and mathematician Isaac Newton lost much of his fortune in the South Sea bubble of 1720.
A research paper published in the Physics Today journal last year detailed how groupthink and collective delusions led even Newton to do a financial blunder despite having enough expertise in finance.
Newton was one of the early investors in South Sea Company, which was founded in 1711 to trade with Spanish America. In 1720, the company bagged a deal to manage British government debt. As soon as the news spread, the price of the South Sea stock started soaring.
Newton, who was then the warden of the Royal Mint in London, wisely chose to book profits in April and pocketed a handsome gain of about £20,000, a princely sum in those years.
As the euphoria around the stock kept on inching higher with every passing day, Newton could not resist the temptation of buying the hottest stock in town once again. According to the research paper, he invested nearly all his money into the venture in June that year.
The man, who developed the calculus and formulated the laws of motion, ended up buying the stock almost at the peak of the bubble. The stock underwent a precipitous collapse in September, most likely because investors began to realise their profit expectations were unrealistic. By October, the stock was worth less than a quarter of its peak price. “By mid-1721, Newton’s net worth was down to about £20,000; he had lost all his early profits and a good bit more besides,” says the author.
Crowd psychology or herd behaviour, which dominated the stock market 300 years ago, is at play even today as tips on Twitter, Telegram, Redditt and WhatsApp groups drive thousands of new retail traders and investors, who are in a hurry to make a quick buck.
In November last year, Gland Pharma IPO’s retail quota remained undersubscribed even when other issues of that time got heavily subscribed. Gland Pharma shares are up 75 per cent in these five months, while the most-loved ones are now trading below their offer prices.
Recently, an NBFC stock (Bombay Oxygen Investments) skyrocketed over 250 per cent in a month just because it has the word ‘oxygen’ in its name. Stocks of oxygen-producing companies are on a high on Dalal Street over the past week amid the medical oxygen crisis to deal with the new wave of Covid infections.
At a recent conference, when ace investor Rakesh Jhunjhunwala was asked what advice does he have for the new retail investors, he warned against the retail mania. “GameStop and others are nothing but race course horses. It is damn exciting. People will make money in one or two trades, bet bigger and then most will lose it all,” he said.
Whether it is South Sea Company, GameStop or the IPO mania, history rhymes loud and clear, but it’s not too pleasant.
