Why do people get sucked into bubbles? - Issac Newton example

[LongHaul]

Isaac Newton was clearly a smart man.  He invested in the South Sea Company. Got out at a profit.  Then apparently, saw his friends getting richer, invested again at a much higher price, and then lost his shirt.  And this was in 1719/1720 during the South Sea Bubble.

 

How do people get sucked into these bubbles even when they know it is craziness?  Stories welcome.

 

Isaac Newton investing in South Sea Company

http://www.telegraph.co.uk/finance/personalfinance/investing/10848995/How-not-to-invest-like-Sir-Isaac-Newton.html

[constructive]

In Newton's defense, a lot of the systematic theory of investment value was not developed yet. He couldn't read Graham, Keynes, John Burr Williams or even Adam Smith - he had to figure out investing on his own. We don't have that excuse today.

[tede02]

Its baked into human psychology.  Robert Shiller's book "Animal Spirits" couldn't have a more appropriate title.  Human beings are extremely influenced by herd behavior.  Very few people, in my experience, are true contrarians naturally.  "What everyone else is doing" appears safe.  Being a contrarian appears dangerous or imprudent. 

[Uccmal]

If Newton were alive today he would be making millions somewhere as a researcher, or at least a high level University Salary and wouldn't need to invest. 

 

Sensible contrarian investing is very hard to do.  I could just be contrary and short Apple, Twitter, and Google, and go long Bbry.  That would be contrarian, but not sensible.  One has to be contrarian to a point, but not totally obstinate about everything.  More often than not the crowd is right. 

[Guest Schwab711]

There's a lot of overlap between CSCO (circa 99-00) and South Sea Company in my opinion. SSC had a government monopoly for all trade in South America waters (including Bermuda and those islands). There was a similar bubble in the Mississippi company at the time that had a similar monopoly on trade out of New Orleans (I think it was NO port). Similar to the "new economy" discussions in the late 90's, it was assumed that massive profits would be made from these trade monopolies.

 

[longtermdave]

Even people who know better get sucked into these things, despite "modern" theories.

 

During the first part of 1999, Soros funds were betting big against Internet stocks, in keeping with Mr. Soros's view that the Internet craze would end badly. As that craze instead kept gathering force, the Quantum Fund found itself down 20% by last July. Mr. Druckenmiller, who was concentrating on investments such as currencies, took back the reins of the stock portfolio. But, calling himself a "dinosaur," he looked for help.

 

Mr. Druckenmiller recruited Carson Levit, a respected money manager who grew up in Silicon Valley and didn't mind paying sky-high prices for tech stocks. Mr. Soros, however, put Mr. Levit through a grueling eight-hour interview, disagreeing with him time and time again. By the end of the session, Mr. Soros said: "Stan obviously wants to bring you in, but I'm still nervous," Mr. Levit recalls. "He looked at me like I was sort of a nut." Still, Mr. Levit was hired to help manage the biggest part of the Soros stock portfolio, soon to be dominated by tech stocks.

 

You can see Cialdini's principles of influence acting in this case: authority, social proof, reciprocity, liking, scarcity, and commitment & consistency, all combining to generate an almost irresistible Lollapalooza that sucked in everyone, even though they knew it would end badly.

 

http://www.colorado.edu/economics/courses/econ2020/4111/articles/soros-fund.html

[peter1234]

Thanks, great article and observations.

:)

[innerscorecard]

Fear of missing out is real. The closest I ever personally felt was Bitcoin, 2012-2013, although I didn't buy at all in the end.

 

I can see it again with Chinese-listed equities. The fear of missing out is spreading as we speak.

[KinAlberta]

Fear of missing out is real. The closest I ever personally felt was Bitcoin, 2012-2013, although I didn't buy at all in the end.

 

I can see it again with Chinese-listed equities. The fear of missing out is spreading as we speak.

 

 

 

Goldman Sachs Says There’s No China Stock Bubble, Sees 27% Rally

by Cindy Wang, July 7, 2015

http://www.bloomberg.com/news/articles/2015-07-07/goldman-sachs-says-there-s-no-china-stock-bubble-sees-27-rally

[Investor20]

Robert shiller in this interview - thats a bubble when people think it is time to jump in even though it is over priced.

 

http://www.cnbc.com/id/102802737

 

Munger attributing to Buffett 'It's not greed that drives the world, but envy.'

 

http://www.fool.com/investing/general/2013/06/10/charlie-mungers-18-biases-that-cause-you-to-fool-y.aspx (number 11).

[KinAlberta]

As I recall, like Buffett saying in a TV interview in about 2009; 'People saw their neighbours getting rich thinking, gee they aren't as smart as us... why aren't we doing that ...'

[Otsog]

In Newton's defense, a lot of the systematic theory of investment value was not developed yet. He couldn't read Graham, Keynes, John Burr Williams or even Adam Smith - he had to figure out investing on his own. We don't have that excuse today.

 

Iirc Keynes himself was nearly wiped out from a currency bubble and a commodities bubble before taking a more value/concentrated approach.