How Isaac Newton went flat broke chasing a stock bubble

For practitioners of Schadenfreude, seeing high-profile investors losing their shirts is always amusing.

But for the true connoisseur, the finest expression of the art comes when a high-profile investor identifies a bubble, perhaps even makes money out of it, exits in time – and then gets sucked back in only to lose everything in the resultant bust.

An early example is the case of Sir Isaac Newton and the South Sea Company, which was established in the early 18th Century and granted a monopoly on trade in the South Seas in exchange for assuming England’s war debt.

Investors warmed to the appeal of this monopoly and the company’s shares began their rise.

Britain’s most celebrated scientist was not immune to the monetary charms of the South Sea Company, and in early 1720 he profited handsomely from his stake. Having cashed in his chips, he then watched with some perturbation as stock in the company continued to rise.

In the words of Lord Overstone, no warning on earth can save people determined to grow suddenly rich.

Newton went on to repurchase a good deal more South Sea Company shares at more than three times the price of his original stake, and then proceeded to lose £20,000 (which, in 1720, amounted to almost all his life savings).

This prompted him to add, allegedly, that “I can calculate the movement of stars, but not the madness of men.”

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The Trader and the Trading System Must Meet

  • Systems don’t need to be changed. The trick is for a trader to develop a system with which he is compatible.
  • My original system was very simple with hard-and-fast rules that didn’t allow for any deviations. I found it
    difficult to stay with the system while disregarding my own feelings. I kept jumping on and off—often at just the wrong time. I thought I knew better than the system.
  • Also, it seemed a waste of my intellect and MIT education to just sit there and not try to figure out the markets.
  • Eventually, as I became more confident of trading with the trend, and more able to ignore the news, I became more comfortable with the approach. Also, as I continued to incorporate more “expert trader rules,” my system became more compatible with my trading style.
  • As I keep trading and learning, my system (that is the mechanical computer version of what I do) keeps evolving.
  • Over time, I have become more mechanical, since (1) I have become more trusting of trend trading, and (2)
    my mechanical programs have factored in more and more “tricks of the trade.” I still go through periods of thinking I can outperform my own system, but such excursions are often self-correcting through the process of losing money.
  • I don’t think traders can follow rules for very long unless they reflect their own trading style. Eventually, a breaking point is reached and the trader has to quit or change, or find a new set of rules he can follow. This seems to be part of the process of evolution and growth of a trader.
  • A trading system is an agreement you make between yourself and the markets.

What Trend Trading Is (Ignore Fundamentals)

  • Reliance on Fundamentals indicates lack of faith in trend following.
  • For Trend Traders, understanding the markets is typically optional, often counter-productive.
  • When an up-trend happens, the price is moving up.
  • Trend Traders get a signal and pull the trigger without regard to the result of any individual trade.
  • Playing for comfort and searching for meanings are both counterproductive to Trend Following.
  • Trend Following systems do not speak about entry and exit prices.
  • Trend systems do not intend to pick tops or bottoms. They ride sides.
  • I don’t implement momentum; I notice it and align my trading with it.
  • There is no such thing as THE trend. Some of the shorter indicators are down while some of the longer ones are still up.

6 Stages Of A Trader

If we are to become a great trader we will go through some variation of all 6 of these stages. Being aware of these stages can help you identify where you are now and where you need to eventually be. Stage

One: The Mystification Stage

Stage Two: The Hot Pot Stage

Stage Three: The Cynical Skepticism Stage

Stage Four: The Squiggle Trader Stage

Stage Five: The Inwardly-Bound Stage

Stage Six: Mastery