Welcome to Will Goetzmann's Learning Curves! This section is a
showcase for graphs, images, models and other additions to the electronic
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This allegorical cartoon ridicules the greatest investment banker of all time, John Law.
After nearly taking France's foreign trade, monetary and fiscal systems private through a
series of bank creations and corporate mergers, Law's visionary dreams of a modern financial market economy
suddenly burst with a collapse of confidence in paper securities. The cartoon is among the many satirical
allegories compiled in the anonymous volume Het Groot Tefereel published in Amsterdam in 1720. It sold well
to Dutch investors who were burned by the promise of Law's Mississippi Company scheme to use the French colony of Louisiana
as collateral against which to issue stocks, bonds and paper money. John Law's scheme almost succeeded, but its failure set monetary
policy in Europe back 100 years.
Instead, Law is blamed for the first great international stock market crash of 1720
that occurred in France, Holland and England as a direct consequence of the bursting of Law's
Mississippi Company Bubble.
Law is the culprit in this scene drawn by an anonymous but obviously bitter contemporary. The banker floats on cloud, and above his head is a windmill. Both are allusions to
the term "Winde negotie" as the trade in inflated stock shares was called after the crash. Another manifestation of
Law is keeping a balooned cat aloft through the pumping of bellows, and a list of suddenly defunct stock market jargon
offered for the vewier's entertainment.
The ape in the tree above Law is a metaphor for foolish speculators. The ape immitates the actions of man
without comprehension of the meaning or intent. The ape peers into the distance, but sees no end in sight to
the increase in share prices. In the French poem below, written under the psuedonym S. Civilien, the ape is judged
unable to understand the risk that is inevitably associated with investment gain:
"Le singe imite l'homme aussi, mais sans seprit a l'hazard de
perir L'sppoire de gain s'atache."
Much of the humor of the puns, jokes and allusions in the cartoon are lost to the modern viewer. However,
it is evident that "Het Groot Tafereel" represents the need to interpret the shock of the first market failure in terms and stories that were familiar. It obviously served put this new phenomenon
-- the stock market crash - into some existing cultural context. However, by stereotyping Law and other stock market participants, these and other sarcastic
commentaries on the Law -- the most famous of which is 19th century classic "The Extraordinary Pupular Delusions and
the Madness of Crowds" -- impeded the future development of paper money and Europe's banking system.
The Dow index was created to help analysists forecast
long-term patterns in the
stock market. Here is one forecast, published in a Wall Street magazine
called
The Ticker, in 1907. It is important, because it makes a TESTABLE
forecast. The analyst identified in solid lines, a 40 month intervals between market
peaks.
Using this pattern, he (or she, since the analyst is unidentified) predicted the future trajectory of the U.S. stocks. The
dotted
lines after 1907 show the forecasted pattern of the market. The RED
line shows
what actually happened to the DOW. The analyst called the next peak
pretty well -- only about three months too soon. However, the dire prediction of a
depression of prices in 1912 did not materialize. The chart is a response to the
great panic of 1907 -- at that time the worst crash in U.S. market history.
Market analysts have been trying to forecast future crashes in the same way since
then --
with equally ambiguous results. Interestingly, recent research has
suggested marginal evidence of a four-year pattern in market returns -- a
validation of the famous Dow theory?
A link to the Museum of Financial History exhibit on
financing the Civil War. According the museum curator this 19th century note was published in English and French -- both legal languages in Lousiana at that time. These ten dollar bil
ls circulated up and down the Mississippi beforethe Civil War, and their source in the deep south came to be known as the "Land of Dixies."
Emerging markets are a hot topic these days -- as they were in the 1920's
and 30's. The League of Nations collected information on international stock
market indices between the wars, and just like today, some of the hot markets at
that time were Hungary, Poland and Mexico. This risk of international stock
investing
is not always captured by statistical measures like standard deviation.
An investor is wise to consider the political and legal risks as well. Many of
these markets suffered complete or partial expropriation during the second world
war.
Notice the discontinuity in the 1940's for Czechoslovakia and Poland.
They are
only now re-emerging markets. Are emerging markets any safer today?
The worlds' equity markets can be viewed as an evolving system that reacts to global political events and forces. These four figures show annual, dollar-denominated capital appreciation indices for 37 of the world's stock markets during the 20th century. They are indexed to 1953, and are arranged alphabetically.
Argentina to Columbia
Denmark to Israel
Italy to Peru
Portugal to Venezuela
Three different statistical procedures for
measuring average share price appreciation tell about the same story.
NYSE shares rose little in price for forty years. This is because most
stocks paid out profits in dividends, rather than retaining earnings.
Share prices got a big lift from the Civil War, and the market was about
as volatile as in the 1900s. The more things change, the more they stay
the same.
Three days after the stock market crash on October 19th, 1987, The NYSE published this chart of the plunge of the New York Stock Exchange Average. It fell from 159 to 128 IN ONE DAY! The more widely watched Dow Index dropped by 508 points -
- nearly a 23% loss -- making it the worst crash in U.S. financial market history. If you believed that stock market returns behaved "log-normally" i.e. conformed to the bell-curve, this event should not have happened in a million years!
Why did the market drop so suddenly? No-one really knows. Some look to announcements of failed exchange rate policies, others blame newly automated computer trading programs, which put machines at the control of sell orders, rather than people.
This picture tells an interesting story. Look at the days before October 19th. The market looks like a cresting rollercoaster. It drops a little, then a little more, then a lot, then finally cascades. As it is dropping, notice that the market keeps o
pening lower than the previous day's close, suggesting that, on the days before the crash, the market failed to find it's bottom. This suggests we should consider keeping markets open when they are crisis, rather than shutting them down. If people fear a
market shut-down, and in this case their fears were possibly well-founded, everyone will try and execute trades before the market closes. Those who sold at the closing price were sorry the next day. The market recovered almost a third of the previous day
's loss.
Strangely enough, the legacy of the crash of 1987 was mild in comparison to the crash of 1929. The market boomed throughout the rest of the 1980's, as the U.S. economy remained strong. One enduring lesson from that day for investors -- returns to the s
tock market are not log-normally distributed! By the way, When you view this
picture, just keep scrolling down.
For anyone considering art as an investment, this is an
instructive picture. This graphic is constructed from the repeated-sales
of thousands of paintings over the period since 1850. It shows that art
has been a high-risk, high-return asset. The volatility of the art index
is greater than the volatility of say, an index of high-terchnology
stocks. On the other hand, art had an average annual arithmetic rate of return of more than 17% per year since the
beginning of this century -- even neglecting the boom of the late 1980s.
Not bad, considering you get to look at it! Art is not a good
diversification tool. It has been correlated to the stock market for
long periods of time, and financial market moves tend to be followed by
art market moves.
This cartoon from the William Worthington Fowler's 1870 autobiography,
Ten Years in Wall Street is accompanied by a reformed speculator's
admonition:
"Drive the plow and reap the grain, sail over the sea, sweep the streets
even, choose any honest calling, no matter how arduous, anything but
speculation. Even
if endowed by nature with gifts and favored by fortune, you rise to be
one of the money kings, your name will then only go down among the gigantic but
disreputable shadows which flit through the traditionary landscape of Wall Street."
Don't take the threat seriously. Our culture has always had a love-hate
relationship with finance. The same people who depend upon professional
investors for
their future well-being at the same time decry money-managers for not
doing "real work." If you go into finance, you will have to live with this
cultural duality.
Russia was one of the worlds great
economic powers before the Communist revolution. This bond, issued by
the Russian Imperial Government in 1890, helped finance the construction of Russia's rail system. Just like America's westward expansion in the 19th century, Russia's eastward expansion was financed by foreign investment. Russia had a well-developed and
relatively sophisticated capital market at the turn of the century. For an all-too-brief moment in global financial history, Russian mining operations and railway companies were the darlings of international investors in London and Paris. This bond, fo
r instance was underwritten in France by the Rothschild Bank, one of the world's greatest banking empires. Investors were promised repayment of their principal in gold. Alas, they never received it. The Russian Bolshevik government defaulted on virtua
lly all of the Imperial financial obligations. Three years the Russian Revolution, Russia's dynamic stock market was shut down and equity claims held by foreigners and Russian nationals alike were expropriated by the state. Holders of these bonds are sti
ll trying to force Russia to make good their turn-of-the-century obligations. More likely they will remain interesting collector's items (Coming soon: then and now, a
picture of the trading floor of the Moscow Securities Exchange from
1993).
An alternative textbook for an alternative course. We teach Finance as
a set of quantitative tools that allow you, or the organization you work
for, to
make informed investment decisions. These basic tools are ultimately
more important than all of the specialized language, and all of the detailed
institutional knowledge that the field engenders. Don't rely upon superficial
knowledge to
"Bluff your way in Finance." Learn the fundamental skills and intuition
behind
them, and they will stand you in good stead through an enourmous range of
different problems.
(1,000, multiple GIFs)
How do you define a city? One way is to allow housing price changes to define the city for you. In this huge, composite map of California zip codes, Susan Wachter, Matthew Spiegel and I have used a clustering program on the last decade of return indices for most of California's zip codes. We specify 20 clusters for California -- effectively requiring the program to create at most 20 groups of zip codes that are substitutes for each other. The results indicate that the Los Angeles area breaks up into three major cities: North Coastal LA, East Central LA, and Orange county. We interpret houses in these groups as relatively close substitutes for each other. We find broad North-South California relationships in suburban communities.
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