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Title: Does credit affect stock trading? Evidence from the South Sea Bubble

Author(s): Fabio Braggion, Rik Frehen and Emiel Jerphanion

Publication Date: March 2020

Keyword(s): Bubble, Credit Provision, Investor Behavior and Margin Loans

Programme Area(s): Economic History and Financial Economics

Abstract: We study the relationship between credit, stock trading and asset prices. There is a wide array of channels through which credit provision can fuel stock prices. On one extreme, cheap credit reduces the cost of capital (discount rate) and boosts prices without trading or wealth transfers. On the other extreme, extrapolators use credit to ride a bubble and lose money. We construct a novel database containing every individual stock transaction for three major British companies during the 1720 South Sea Bubble. We link each trader's stock transactions to daily margin loan positions and subscriptions of new share issues. We find that margin loan holders are more likely to buy (sell) following high (low) returns. Loan holders also sign up to buy new shares of overvalued companies and incur large trading losses as a result of the bubble.

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Bibliographic Reference

Braggion, F, Frehen, R and Jerphanion, E. 2020. 'Does credit affect stock trading? Evidence from the South Sea Bubble'. London, Centre for Economic Policy Research. https://cepr.org/active/publications/discussion_papers/dp.php?dpno=14532