Smarter Than Newton

“I can cal­cu­late the move­ment of the stars, but not the mad­ness of men.” — attrib­uted to Sir Isaac New­ton

I’ve been read­ing “Glob­al Val­ue: How to Spot Bub­bles, Avoid Mar­ket Crash­es, and Earn Big Returns in the Stock Mar­ket” by Amer­i­can investor / author / pod­cast host Meb Faber. It came out in 2014, so pre-dates the Mag7 / AI bub­ble. But I did find his dis­cus­sion about Sir Isaac New­ton and the infa­mous South Sea Com­pa­ny bub­ble of 1711–1720 fas­ci­nat­ing.

First — some back­ground for peo­ple who might have heard about that par­tic­u­lar bub­ble but, like me, nev­er real­ly paid much atten­tion.

The South Sea Com­pa­ny was a British joint-stock com­pa­ny found­ed in 1711 to reduce the cost of the nation­al debt. The back­ground is fas­ci­nat­ing for stu­dents of his­to­ry (wel­come, fel­low nerds).

Dur­ing the Nine Years’ War (1688–1697), the Roy­al Navy was defeat­ed by the French Navy. Sad­ly, this was a bit before Napoleon’s time, so he did­n’t get to enjoy that sight.

The Eng­lish gov­ern­ment decid­ed they had to build the great­est navy in the world, but that was going to cost a for­tune — £1.5m. Unfor­tu­nate­ly, they could­n’t bor­row that kind of coin, because they had ter­ri­ble cred­it. You think the U.S. Gov­ern­ment today has prob­lems issu­ing bonds? That’s noth­ing com­pared to Britain in 1697.

So the Bank of Eng­land was estab­lished to raise the funds. Peo­ple would con­tribute funds (to a max­i­mum of £10,000) to the bank, which it would loan out to the gov­ern­ment and charge inter­est. The fund rais­ing exer­cise was like the SpaceX IPO of its time — £1.2 mil­lion was raised in 12 days; 1,268 peo­ple sub­scribed.

The mon­ey they raised fund­ed the new Roy­al Navy which helped turn Britain into the world’s dom­i­nant mar­itime and impe­r­i­al pow­er. Even on the eve of World War II, 239 years lat­er, the British Empire still spanned about 13 mil­lion square miles, rough­ly a quar­ter of the world’s land sur­face.

By 1710 the gov­ern­ment had already become reliant on the Bank of Eng­land, which remained a pri­vate­ly owned com­pa­ny until its nation­al­i­sa­tion in 1946 (bloody Com­mu­nism!).

In the ear­ly 18th cen­tu­ry, the BoE had a monop­oly as the lender to the gov­ern­ment and the gov­ern­ment was­n’t too hap­py about the cus­tomer ser­vice (banks haven’t changed much since then). They need­ed an alter­na­tive source of cash.

The South Sea Com­pa­ny was formed. Shares were issues to the gov­ern­men­t’s cred­i­tors and the com­pa­ny was grant­ed a monop­oly to trade with South Amer­i­ca… which was incon­ve­nient­ly con­trolled by Spain at the time, not Britain. Luck­i­ly, Britain now had a shiny new navy. Spain and Britain were at to war. When they signed a treaty in 1713, Britain was grant­ed the right to sup­ply the Span­ish colonies with African slaves for 30 years. The slave trade was being pitched as the AI boom of the ear­ly 18th cen­tu­ry. (Per­haps our future AI over­lords will think of that anal­o­gy, too.)

Six years lat­er the com­pa­ny was strug­gling, so it start­ed talk­ing up its stock with “the most extrav­a­gant rumours” of the val­ue of its poten­tial trade in the New World. This result­ed in a “spec­u­lat­ing fren­zy”. And some peo­ple made out like ban­dits. Or slave traders. Pick your anal­o­gy. Shares in the com­pa­ny were giv­en to politi­cians at mar­ket price. They just held onto them until the price went up, then sold them back to the com­pa­ny at the new mar­ket price. What a handy way to make sure the heads of gov­ern­ment aren’t going to com­plain. Kind of like giv­ing the son of a Prime Min­is­ter free access to the Chair­man’s lounge…

The com­pa­ny pub­li­cised the names of their elite stock­hold­ers, which prompt­ed the gen­er­al pub­lic to think “well if THEY think it’s a good invest­ment…”.

Over the course of a year, the price went from about £100 to almost £1,000 per share. Then the elite start­ed to take their prof­its. The price col­lapsed. Peo­ple went bank­rupt. Many more lost a for­tune — includ­ing Sir Isaac New­ton.

Faber: “The afore­men­tioned quo­ta­tion (see the top of the arti­cle) is attrib­uted to Sir Isaac New­ton, an unfor­tu­nate spec­u­la­tor in South Sea Com­pa­ny dur­ing the peri­od. Marc Faber has com­piled a chart of Newton’s trad­ing abil­i­ty in the pri­or fig­ure, and it illus­trates a few key points that have with­stood the test of time: a) invest­ment bub­bles have been around for cen­turies, and b) it is near­ly impos­si­ble to stand aside while every­one else (your neigh­bor includ­ed) is get­ting rich. Iron­i­cal­ly enough, the com­pa­ny con­tin­ued to oper­ate until the 19th cen­tu­ry, far out­last­ing all of the orig­i­nal share­hold­ers.”

Despite what the chart says, New­ton was hard­ly “broke”. New­ton owned near­ly £22,000 in South Sea stock in 1722, and lost at least £10,000 (equiv­a­lent to £1.91 mil­lion in 2025). Lucky for him, he was already rich before the bub­ble and he was still rich when he died in 1727, with an estate val­ue around £30,000, the equiv­a­lent of near­ly £1 bil­lion mea­sured as a share of con­tem­po­rary GDP, or rough­ly £6 mil­lion by stan­dard infla­tion mea­sures. So he lost about a quar­ter of his net worth on the bub­ble but died a wealthy man.

All QAV mem­bers can be bet­ter investors than Sir Isaac New­ton thanks to our sys­tem, built by our res­i­dent genius. Tony’s sys­tem assumes “the mad­ness of men” (and women) and helps us avoid mad­ness by giv­ing us a sim­ple set of invest­ing rules to fol­low. Those rules keep us out of direct­ly invest­ing in bub­bles, although, of course, when the inevitable crash comes, it tends to bring the rest of the mar­ket down with it. Even then, our rules help us nav­i­gate the chaos.

Maybe the QAV Bible needs a new, fanci­er title. In Latin. How about:

Qual­i­tatis ad Val­orem Prin­cip­ia Math­e­mat­i­ca — “The Math­e­mat­i­cal Prin­ci­ples of Qual­i­ty at Val­ue.”

I like it. I like it a lot.

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QAV Myth Killers is a week­ly col­umn in the QAV newslet­ter, tak­ing apart a piece of
invest­ing con­ven­tion­al wis­dom. Read the series, or
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