Irving Fisher had a lot going for him during the 1920s. He was the best-selling author of How to Live, a book on healthy living. He was a successful inventor of what is best described as a precursor to the Rolodox. He was the most popular economist in the U.S.
Fisher was a Yale professor who came up with several theories that advanced the study of economics. One of his theories was the Equation of Exchange which measured the velocity of money. Velocity was the average number of times a dollar was used to buy goods in a given year.
Fisher believed his equation could be used to forecast future swings in prices and the economy. He only needed to prove his theory against reality. Studying reams of data going back about 15 years, Fisher found that a rapid increase in velocity led to a downturn the following year.
His findings were published in two articles in 1912 and 1913. His first forecasts were included in both. He accurately predicted an economic expansion in 1912 and a recession in 1913.
That early success, and praise for his mathematical approach, drove a desire for a wider audience. The Index Number Institute was born. Its purpose was to sell weekly access to Fisher’s index numbers and other economic data to newspapers. Fisher hoped business managers and investors would then use the data to anticipate changes in the economy and the stock market.
By the middle of the 1920s, Fisher gained national attention. He wrote a weekly syndicated editorial, Irving Fisher’s Business Page, pushing his forecasts out to millions of readers. He gave regular speeches on why his mathematical approach to forecasting was far superior to the “gut-instinct” forecasts of others. He was sought after for his predictions.
On October 15, 1929, during a speech in New York City, he made his infamous call: “Stock prices have reached what looks like a permanently high plateau… I expect to see the stock market a good deal higher than it is today within a few months.” Two weeks later the stock market crashed.
Fisher’s prediction on October 15th was one of many bullish takes he made in the fall of 1929:
- “There may be a recession in stock prices, but not anything in the nature of a crash.” — September
- “I expect to see the stock market a good deal higher than it is today within a few months.” — October
- “Security values in most instances were not inflated.” — October 23rd
Fisher’s predictions were upbeat going into 1930: “would not be surprising if by next month the worst of the recession will have been felt and improvement looked for.” His book, The Stock Market Crash — And After, published in February 1930, offered a similar optimistic take: “For the immediate future, at least, the outlook is bright.”
By the end of 1930 and into 1931, his predictions were still optimistic — similar to “the worst was over.” Fisher at least acknowledged the problems in the economy but his predictions had fallen short for two years running.
A weird thing happens when confidence and optimism get distorted. We overestimate the likelihood of a good outcome. Fisher had both in spades. He believed his forecasting approach was superior. He also believed in the New Era ideology of the time. He overestimated his ability to predict the future and that future looked bright. He was also brilliant and knew it.
Unfortunately, Fisher was so optimistic that he practiced what he preached. Fisher was massively under-diversified. The bulk of Fisher’s portfolio sat in shares of Remington Rand, a byproduct of the Rand Kardex merger with Remington Typewriter Company in 1927. He was also margined to the hilt going into the 1929 crash.
Buying stock on margin can accentuate gains but amplify losses. Fisher benefited initially but learned how destructive massive debt can be on wealth.
Margin loans are a way to borrow money to buy stocks. In the 1920s, investors could put 10% to 20% down to buy stocks and borrow the rest. This works great when stock prices rise because you put a little money down and get a lot of money in return.
But when stock prices fall, horrible things happen. Brokers don’t like to lose money on margin loans so they put minimum margin requirements in place to protect themselves from losses. However, it does not protect you from losses. Instead, you get what is known as a margin call when the minimums are triggered.
A margin call says that the loan is too high as a percentage of your total account, you need to lower it. So you can either sell stock or add more money to your account. The worst-case scenario is forced selling because it happens at a loss.
Shares of Remington Rand that were $58 in 1929 fell $1 in 1933. The 1929 crash alone dropped the stock’s price to $28. Rather than sell, Fisher’s optimism got the best of him and he doubled down. He not only added money to cover any margin calls, but he also bought more shares on the way down.
In total, he borrowed $750,000 from his sister-in-law to cover his losses. He also sold his mansion, a wedding gift from his father-in-law, to Yale in 1936 (with the condition that he stay for a modest rent but was forced out three years later).
Fisher lost everything and never recovered. The belief that he could predict the future, combined with massive margin debt, was his downfall.
Source:
Fortune Tellers
Timeline of the 1929 Market Crash
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The Downside of Chasing Huge Wins