Initially, only the true connoisseurs bought tulip bulbs, but the rapidly rising price quickly attracted speculators looking to profit. Soon tulip bulbs were being traded on local market exchanges. By 1634, tulip mania had feverishly spread to the Dutch middle class. The name of the game was to buy low and sell high, just like in any other market. The whole Dutch nation was caught in a sweeping mania, as people traded in their land, livestock, farms and life savings all to acquire a single tulip bulb.
In less than one month, the price of tulip bulbs went up twenty-fold. All common sense and logic was thrown to the wind, and even scoffed at. This is exemplified by how many USEFUL items it cost to buy 1 single tulip bulb:
The modern day value of these items is over $40,000.
In 1636, tulips were trading hands on the Amsterdam stock exchange as well as on exchanges in Rotterdam, Harlem, Levytown, Horne and many other exchanges in other nearby European countries. These exchanges started to offer option contracts to speculators. Option leverage allowed an investment of $1,000 to balloon into $100,000. Unfortunately, leverage is a double-edged sword. If the tulip bulb price moved downwards ever so slightly, the option buyer’s investment would be lost and they might even owe money.
After some time, the Dutch government started to develop regulation to help control the tulip craze. It was at this point that a few informed speculators started liquidating their tulips bulbs and contracts. It was these people, or the smart money that secured large profits that were now in the form of cold hard cash. The tulip market began a slight down trend, but shortly after started to plummet much faster than prices went up.
Suddenly the market began a widespread panic when everyone started realizing that tulips were not worth the prices people were paying for them. In less than 6 weeks, tulip prices crashed by over 90%. Fortunes were lost. Wealthy became paupers. Bankruptcies were everywhere due to the negative side of option leverage. People that traded in farms and live savings for a tulip bulb were left holding a worthless plant seed.
The financial devastation that followed the tulip bulb crash lasted for decades, crippling Dutch commerce. The price of tulips at the height of the mania was $76,000; 6 weeks later they were valued at less than one dollar. The only people who prospered from the insanity were the smart money who liquidated at the top.
You may think that I bring this up to talk about the impending bursting of the real estate predicted by everyone. But you would be wrong. Here’s a clue: when everyone is predicting the direction of a market, everyone is wrong. Sure, that’s a lesson you can learn from the Tulip Mania described above. Indeed, it is the lesson pointed to by Tulip Mania from which the foregoing is adapted.
But it is not what sent my mind reeling back to the late 16th century. For that, see, the Harper’s Index in the January issue. Item no. 32, is as follows:
Estimated percentage of the assets held by S&P 500 companies in 1980 and 2006, respectively, that were intangible: 20, 70.
Huh? What is an intangible asset?
An intangible asset is an identifiable non-monetary asset without physical substance. An asset is a resource that is controlled by the enterprise as a result of past events (for example, purchase or self-creation) and from which future economic benefits (inflows of cash or other assets) are expected, according to International Accounting Standard No. 38 Did you notice that they can be purchased?
Here’s how it works: Rossum Universal Widgets decides to buy Widgets’R’Us, Inc. Five hundred dollar an hour lawyers negotiate a deal so that Widgets’R’Us gets paid 100 million dollars more than the value of its physical assets. Sweet.
Now, whoever owned Widgets’R’Us has an extra million C-notes, and a CEO who is no longer needed. After all, R.U.W. had its own CEO, thank you, and it didn’t just spend all that money to get rid of him. What to do? What to do?
Well, you could give the extra hundred million to the retiring CEO of Widgets’R’Us. After all, he deserves it. Maybe part of the money will be in a non-competition clause. Maybe some of it will be in a negotiated buy-out: a golden parachute, if you will. So far, so good.
The only problem is how to deal with the accounting of the hundred million. No problem. It shows up on the balance sheet of Rossum’s as “good-will.” The tangible assets of Rossums’ may be 45 million, but the company’s balance sheet says the company is worth 145 million smackers.
Did I say “No problem”? I guess I meant, no problem other than the fact that 70% of what the share-holders of Rossums’ Universal Widgets own went to keep some fat cat happy in his retirement.
One more problem: The 45 million dollar widget factory is turning out widgets like there is no tomorrow. And now, everyone wants one. So the owners of R.U.W. are making money hand over fist. And of course, what’s good for Rossum’s is good for the country, because they are paying taxes on the income they are making. Cool beans!
Well, on that taxes thing, let’s just cool it one darn minute, and talk to the bean counters. See, that 100 million dollars of good will, that won’t last forever. We are going to have to depreciate it, or expense it or something that is a charge against income. So, the cash flow isn’t affected, but the income goes down, and with it the tax liability. What’s good for Rossum’s isn’t so good for the country.
I mean my country. Not the other America. The one owned and operated for the benefit of multi-millionaires living off the sweat of other men’s brows.
“…and tell ’em Big Mitch sent ya!”