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You may have already heard of the Dutch tulip mania in the 1600's. When tulips gained popularity with those of royalty, the general demand increased for all types of bulbs. Tulips became a status symbol and tulip bulb prices rose dramatically. As bulb prices increased, Dutch growers and dealers began to trade tulip bulb options to lock in prices and insure profits. As public interest grew, greater numbers of people speculated on future price increases. In the beginning, this proved to be profitable. This situation only caused the speculation to increase and tulip bulb prices continued to soar even higher.

The bubble soon burst and as prices dropped, the buying frenzy became a selling panic. People lost their homes and their livelihoods, banks failed, and fortunes were lost. Although greed, reckless speculation, and the use of borrowed funds to invest caused the financial collapse, people blamed options. This was because tulip options were responsible for enabling people to speculate with small amounts of money and large amounts of leverage.

We should learn the lesson that leverage can work against a trader just as easily as it can work in his or her favor. 

 In America during the 1920's, the option market was unregulated and there were many abuses by underground option pools. During the congressional hearings to establish an oversight committee, which eventually became the Securities and Exchange Commission, the initial reaction was to make all options trading illegal. However, Congress gave the Put and Call Dealers' Association a chance to speak out.

The Association explained the difference between options where put-call dealers deal openly for a consideration and manipulative options secretly given for no fee. In other words, there were both good and bad options, but the lack of knowledge about the proper use of options and the heightened public awareness of option pools led many in Congress to conclude that all options were speculative.

The proposed bill read: "not knowing the difference between good and bad options, for the matter of convenience, we strike them all out." Members of the committee also expressed concern about the number of options that expire worthless. It was stated: "If only 12 ½ percent are exercised, then the other 87 ½ percent of the people who bought options have thrown money away?" The reply was, "No sir. If you insured your house against fire and it didn't burn down you would not say that you had thrown away your insurance premium." The committee initially saw expired options solely as a monetary loss rather that a means of insurance against potential loss.

This argument convinced the committee that options have economic value and when properly used, options can be valuable investment tools. The options business survived the hearings and the SEC assumed regulating authority under the Securities and Exchange Act of 1934. The SEC still regulates the options industry today. 

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