Long-term data allows you to make long-term predictions. Given the performance of the stock market over the past 300 years, there appears to be a high probability that the next roaring Bull market for equities will occur in the 2020s. If you look back at the stock market over the past 350 years, you’ll find that in each Century, the Twenties have always enjoyed bull markets in equities; this rings true for the 1720s, the 1820s and the 1920s. Unfortunately, as we’ve seen with bull markets across many asset classes, these dramatic bubbles came crashing down by the end of the decade.
Although there is no reason why events a hundred years ago should determine events one hundred years forward, similar situations can produce similar results. As the saying goes, history doesn’t repeat itself, it rhymes. What were the situations that produced the Bull Markets of the 1720s, 1820s and 1920s? Could this pattern repeat itself in the 2020s?
The graph below shows the growth in UK Government debt from 1691 on. The rise in debt through 1720 that resulted from the War of the Spanish Succession is quite visible, as is the quadrupling of government debt during the Napoleonic Wars, the increase in debt during World War I and World War II, as well as the increase in debt that has occurred in the UK since 1970. Debt drives bubbles and government debt creates the biggest bubbles of them all.
The 1720s are best known for the South Sea Bubble in London, but in fact, there were similar simultaneous bubbles in both Amsterdam and in Paris. The War of the Spanish Succession (1701-1714) was a European-wide war fought over whether Spain and France should be united under a single monarchy. This war added to the government debts of all the European countries and after the war was over, the government wanted to find a way to avoid the debt they had created.
In both Paris and in London, governments found ways to convert outstanding government debt into equity in trading companies whose monopolies would produce large returns to shareholders, but instead this created bubbles for the Compagnie du Mississippi in Paris and the South Sea Company in London. Although the South Sea Bubble is the more famous of the two, the Compagnie du Mississippi stock was the bigger bubble with share prices going from 282.5 in November 1718 to over 10,000 by November 1719. The South Sea Stock’s increase from 116 to 1045 seems small by comparison.
In both France and in Great Britain, the causal factor of the first global stock market bubble was the government trying to rid themselves of their excessive debt load and stimulating the economy through inflation and a debt-equity swap. The government benefitted because it reduced its debt, and many speculators benefitted as well. But the long-run costs outweighed the short-run benefits. As a result of these bubbles, the stock market was seen as a speculative trap that hurt investors, and the “Bubble” Laws that were passed in England after the bubble ended stifled investment in legitimate companies until the Canal stocks became a source for capital at the end of the 18th Century.
Stock markets in both London and Paris remained quiescent for the rest of the 18th Century. The French Revolution of 1789 led to the Napoleonic Wars which not only engulfed Europe in war, but as always, produced huge debts. After the Napoleonic Wars ended in 1815, London was awash in liquidity. During the wars, the South American colonies had declared their independence from Spain while Spain was ruled by Napoleon’s brother, Jose Bonaparte.
Since South America was one of the primary sources of gold, silver and other minerals, the newly-born countries used this fact to borrow money from Europe, using the future revenues from gold and silver as a guarantee for the bonds and equities that were being issued, just as the South Sea Co. and Mississippi Co. had used their expected monopoly trade revenues to justify the bubble of the 1720s. The end result was the same, liquidity flowed into the new government bonds and stocks, and having forgotten about the bubble of the 1720s, the bubble of the 1820s ensued.