Cause,Pre-Conditions,Some Reasons for Speculative Manias & Their Aftermaths-Part.1

economic-pre-conditions
A crowd think: in image: and each image itself call: up a fantasy’ of other image: though the} may have very distant relation with the observed fact: . (Le Bon)

After going through the history of the six episodes of speculative mania as detailed in the previous two chapters of this book, it would not be surprising if readers are now full of questions. In particular, you must be asking yourselves, ‘Why should it have taken place at all?’. ‘What sort of emotions could have driven people who were otherwise .quite sane and normal to chase the share price of tulips up to 6,000 florins or a share of OCBC up to $502″ and ‘Will it ever happen again?’ In this chapter, an attempt is made to draw some conclusions as to why and how a speculative mania takes place. Our brief study seems to indicate that all speculative manias share certain pre-conditions and human failings which lead to their spectacular rise in prices and finally end result. Hopefully, this chapter will provide enough clues for readers to recognize future speculative manias and keep well away from them.

THE PRE-CONDITIONS

All past speculative manias seem to share, to a very large extent, similar economic and social pre-conditions. Without these pre-conditions, speculative manias would not occur. Let us study them in detail.

Economic Pro-Condition:

Firstly, the country must have been going through a period of prosperity. The prosperous economic situation results in a rise in average income and an increase in savings. The availability of savings,

especially a rising amount of savings, is critical for a speculative mania to begin with. This was certainly true for all the manias we have looked

at. Some may argue that the economic situation was not good in 1971 and 1972 and yet a boom took place. There is an explanation for this paradox Although the income level on the whole was not high, consumption had been very low too. The reason for such a low level of consumption was the aftermath of the 13 May, 1969 incident. Most people can still remember how Kuala Lumpur and Petaling Jaya were like ghost towns after dark in the years following 1969. Furthermore, few houses were sold and there were neither colour television nor video machines. Thus personal savings, together with corporate accumulation of cash, was high even though the country was not going through a good period economically.
Secondly, other avenues for investment were few in number and people’s attention was therefore focused in a single area. In all the cases that we studied, this was more or less the situation. Although land or houses are often cited as a possible alternative for investment, it is not suitable from several view points. Land and houses are not easy to liquidate; it takes months to complete a purchase or sale. Secondly, the incidental costs (legal fees and stamp duty) are high. Finally, there is no one standard house for ready transaction; each house is an individual entity and is difficult to define. It is interesting to note that in the only truly large-scaled land speculative mania that had ever taken place (the Florida Land Boom of 1928), the speculation was not so much centred around land but on the options to purchase land (the so called ‘binders’). During the Crashes of 1973 and 1981, not only was there no real alternatives available but also there was a very restricted number of listed firms. This helped to concentrate the fire, so to speak.

Thirdly, credit for financing the speculation must be readily available. Thus the 1929 Crash was largely financed by the use of 10 per cent margin. Speculation came to a complete stop once a 90 per cent margin rule was applied in 1931 In Malaysia/Singapore, both in 1973 and 1981, bank credit was easily available for 50 per cent of the value of the stocks. But, far more than this, the most insidious aspect of stock Speculation in Malaysia/Singapore was the complete lack of control of margin by the stock brokers. In Western countries, no one can buy or sell shares without at least a 50 per cent margin. If a person wishes to buy one lot of shares for US$10,000 in the US, his broker will not execute his order unless he has deposited with his broker either US$5,000 (Le. 50 per cent of the value of his purchase) in cash or

shares with a market value of US$10,000. Thus the brokers are protected to the tune of 50 per cent should the customer fail to pay for the rest ol‘his purchase. The same rule applies if the customer wants to sell. He has to either deposit 50 per cent of the value of the stock if he is short selling or the stock itself if he has real intention to sell. Thus in order to indulge in share speculation, a person must bring to it real asset (cash or stock) to support his activity. Irrespective of whether the price goes up or down, the customers will not get into real diiliculty unless the price decline or increase is more than 50 per cent which is rather unlikely to occur. In Malaysia/Singapore, during the booms of 1970/72 and 1979/80, most orders were executed without a single cent of margin. Although the current situation is much better with some brokers now imposing margin requirement, overall, the situation is still quite slack compared with the US situation. Speculators, without a cent of personal capital, could indulge in buying and selling so long as the market was moving in their favour. To further aggravate the problem, share deliveries used to take weeks, if not months. Specualtors could therefore trade and contra-trade many a time without having to pay for a single share. This was all well and good so long as the market was moving up. Speculators trading on zero margin stood to gain a huge sum relative to his capital (if he had any at all). However, once the market moved down, the speculators, not being protected by their own 50 per cent capital, rapidly lost all their reserves and were forced to sell even if the price has fallen sharply. The stampede in the opposite direction then went into effect. Once the bears saw the bulls retreating, they could set up a huge wave of short selling, again with zero capital. In the face of such totally uncontrolled short selling, it is not at all surprising that previous Malaysian/ Singaporean stock market collapses Were as severe as they had been.

Social Pre-Conditions

In addition to the required economic conditions, speculative orgies can only take place if the people involved fit a certain mould. Some countries are far more prone to speculative mania than others because the social conditions are ripe for them. Thus, the Swiss people seem to be perpetually immune to speculation and so does the typical poor third world nation for that matter. What are these social pre~conditions?
Firstly, there must be a large number of people who are in a position and have the means to take part in the speculation. In order for a speculative mania of the scale that we hate seen to take place, hundreds of thousands of people must be invoked, not a handful of speculators and dishonest individuals as many would like to think it to be after the event. This usually means that the country must have a large and thriving middle class. This rules out most third world and socialist countries. However, a country that is just emerging into prosperity and economic adulthood is particularly prone to speculative mania because its newly emergent middle class has the means but not the sophistication to deal with speculation. (The collapse of the Kuwaiti market in 1982 is another classic example).

Secondly, the mood and thinking of the people must be conducive to the act of economic speculation. This means that the common people who are taking part in the speculation must be both optimistic and share the conviction that they too can be rich Without expending much effort. It has been said that the Swiss people are immune from speculative excesses because of their strong Calvinism: tradition (a religious philosophy based on the teachings of john Calvin (1506 -1562) who preached, among other things. the saintliness of hard work and a simple life). When people are, at the same time, optimistic and sure that they are meant to be rich, they are more likely to throw totally all caution to the wind and will not know when it is the time to leave the market once the rise has gone far enough. Forbes, the highly respected American business magazine, calls this the “Hope, Creed and Fear Syndrome’. First, the people buy shares (or tulips) because they have hopes and optimism. When the price moves up and they have made small gains, the hope turns into greed for they want even greater gains. This greed either makes them buy more or prevents them from selling out at however high a market price. Finally, when the market moves against them and turns down, their greed turns to fear and in the panic to sell out at any price, the market collapses.

Finally, businesses and businessmen must be held in high esteem. It is not at all surprising that no speculative mania of any size has taken place in 20th century Northern Europe. In the North European coun~ tries, materialism is far less a way of life than, say, the US or Malaysia/Singapore. Businessmen, though not exactly held in com tempt, are often regarded as not quite proper. People in these countries look up to the pursuit of higher things in life other than money. This is very much in sharp contrast to the South-east Asian countries. Let us consider the example of Malaysia/Singapore. Here, the pursuit of money is king; society accords the highest recognition to its successful businessmen. The politicians of the country are often businessmen as well who first achieved their prominence in the world of money and then moved over to politics or vice versa. Even the pursuit of such professions as law or medicine is often strongly influenced by their money-making potential. This is very similar to the US situation of the 1920’s when even President Hoover was moved to say: “The business of the U.S.A. is business.” This esteem is very necessary to attract a large number of stock buyers for, as has been explained in a previous chapter, the purchase of stocks at a very high price is a supreme act of trust and faith.

**Margin’ in the stock market means the amount of cash which has to be put up to buy or sell shares. Thus, a ‘10 per cent margin’ means that the stock purchasers must put up to per cent of the cost of purchasing the shares in cash, with the rest provided by the broker as a loan.

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