How Were the Financial Markets Created?
Although modern-day trading and investing is mainly computerised, many people still associate the markets with the open outcry system and the traditional hustle and bustle of the New York Stock Exchange.
Those days may seem like a distant past, but even those more traditional approaches were a massive evolution from what the markets began as.
The Early Years
Before any real stock exchange was built, some countries had their own kind of trading systems that worked in a similar way to an exchange.
In the 1100s, France had the ‘Courtiers de change’ who were a group of men that managed agricultural debts on behalf of banks. They are believed to be the first brokers since they traded these debts and regulated them.
Venice — the City of… Finance?
Most people would think of Venice as the city of love. With its network of canals and astonishing cultural treasures, it’s an ideal place for a romantic weekend getaway. You may even think about the famous Shakespeare play The Merchant of Venice, written in the 16th century.
You perhaps wouldn’t associate it with the financial markets. But, in fact, some 200-300 years before Shakespeare’s masterpiece, merchants in Venice were trading government securities, all the way back in the 1300s. This paved the way for merchants in nearby cities to start doing the same.
The First Stock Exchange
Fast-forward another 200 years and we have the first stock exchange.
This was documented to have been created in Antwerp, Belgium at around 1531. Before this, it was believed that inn-keepers controlled the securities and trades, which was a very respected job. One of these inn-keepers was the Van der Beurse family who ran the Ter Beurse Inn in Bruges.
Men would meet to deal with government issues, businesses and debt, and would meet in the Ter Beurse Inn or in the nearby square.
The group was called the Bruges Buerse, this is believed to be when people began calling the stock exchanges ‘Bourses’; named after the family.
There was no actual stock in these stock exchanges. Instead, they dealt in promissory notes and bonds, similar to how we trade in the markets today.
The Dutch East India Company
Moving on to the 1600s, lots of ship owners from different countries sent ships over to the East to trade and bring back valuable goods for trading in their home nation.
These were very dangerous trips for many reasons, including the turbulent waters and pirates. This meant it was a risk to the ship owners, as they would stand to lose a huge amount of money if their ship didn’t make it back.
To help decrease the risk of losing money, the shipowners would seek investors to financially back the boat and crew for that voyage. By doing this, the shipowner would be distributing some of the risk and would therefore not lose as much if the ship fell victim to one of the many dangers on the trip. If the voyage was successful, the investor would get a percentage from the proceeds.
Of course, this was a risky investment for investors. If the ship didn’t return, they would lose all the money invested. To reduce their own risk, they would invest in many different ships on different voyages. A classic case of diversification; not putting all your eggs in one basket.
In some cases, this would mean that even if just one ship came back, they would still make a return. They were taking a portfolio approach.
A company called the Dutch East India Company was formed. The Dutch East India Company became the world’s first publicly traded company in 1602.
Instead of investing in each individual ship on different voyages, investors could buy shares in the company, meaning they were getting a stake in a portfolio of ships instead.
This meant the company could charge more for their shares and therefore had more money for even more ships and even more voyages. The investors could also potentially earn additional money through dividends in the company, rather than just receiving a percentage from each individual trip.
Investors would receive their stocks on paper, which meant they could either hang on to them and keep receiving dividends or sell them to other investors and potentially make a profit on the asset.
Many other countries began to do this with East Indian companies, including the Brits who had the British East Indian Company.
In England, investors used to go to coffee shops to buy and sell these paper stocks, since there was no physical stock exchange set up. People would have to track down the broker that they needed and try to make a deal.
Investors in the British East Indian Company starting earning large dividends and making profits by selling their shares to other investors. There were no regulations in place for the issuing or selling of shares at this time, so more companies started to pop up and follow in their footsteps.
This is when the South Seas Company was formed. They managed to sell all their shares before even making their first trip. People could see the huge amount of money they had made from selling these shares and saw an opportunity. Suddenly, more companies started appearing as everyone wanted to jump on the bandwagon.
If this sounds similar to things like the dot com bubble or the recent wave of ICOs, that’s because it is! As the famous phrase says, “there’s nothing new under the sun”.
As more companies were established, a lot of these were ‘blind’ shares, as people didn’t even really know what they were buying.
In the end, the South Seas company didn’t make much profit and dividends weren’t paid out. This caused the bubble to burst and a crash took place in England. This led to the issuing of shares being banned by the government and the ban remained until 1825.