“Locke differentiates three types of law: 1) the law of opinion, 2) civil law, and 3) divine law (see fig. 7.1). The law of opinion refers to general precepts established by public opinion. It is the “law of fashion,” which may merely reflect what is in vogue or what is a group’s collective preference. In modern parlance we may call this “contemporary community standards.”

The Law of Fashion, John Locke

Dear fellow investors,

The great philosopher, John Locke, brilliantly captured the way the world works. Little did he know that he would also explain how the stock market works, even though it barely existed when he came up with his philosophy. The stock market is driven by “the law of fashion, civil law and divine law.”

Law of Fashion

We have participated in the stock market since 1980 and we know quite a bit of the history of the prior decades. Each decade seems to have its own law of fashion. This means a “general precept established by public opinion.” It is the heart and soul of what John Kenneth Galbraith called “financial euphoria.” In the 1960s, the space race encouraged excitement about “Go-Go” growth companies. In the early 1970s, it was a group of 50 stocks (the Nifty-Fifty) which seemed to grow consistently and were rewarded in the marketplace of investors with highly fashionable price-to-earnings (P/E) multiples.

By 1981, stocks had done horribly as inflation soared and fashion surrounded businesses which benefitted from inflation. Five of the six largest cap companies were oil stocks and energy made up 29.5% of the S&P 500 Index. Oil, real estate and gold enjoyed the favor coming from the “law of fashion.”

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