Bursting Bubbles (#157)

I graduated college right in the middle of the internet bubble. This was a time when internet start-ups paid people to work in their offices to look bigger to impress venture capitalists and the Aeron chair was a symbol of success.

I recall numerous public companies adding “.com” to their name or spinning off their .com divisions. The announcement of this act alone would elevate their stock 50%-100% overnight.

Many warned that this internet boom was not sustainable, but I was one of those starry-eyed believers who told everyone it was different this time; the internet was a new paradigm and prices would only keep going up. When it all came crashing down, it cost me my job and a significant portion of my savings, which I’d invested in the .com segment.

This was a painful lesson, but one I was determined to learn from. So, I started studying bubbles and read about such events as the famous Dutch tulip mania in the 1600s. At the height of the tulip craze, single tulip bulbs sold for as much as a house in Holland before the market eventually crashed, causing significant financial loss, especially for those who had gotten in at the end.

History shows that the most money is typically made right before a bubble peaks. Seduced by stories of overnight riches, many holdouts and novice investors pour in right before the inevitable collapse.

This historical knowledge, along with my own personal experiences led me to write and publish an article predicting the imminent crash in the price of Bitcoin exactly one year ago today. Since then, Bitcoin is down almost 70%, an unsurprising reality based on historical precedent. Bubbles tend to follow a familiar formula: Greed + FOMO + Debt = a bubble about to burst.

  • Greed: Many bitcoin companies were launching “ICOs” or Initial Coin Offerings. These ICOs served the purpose of lining the business owners’ pockets but provided little, if any, real value to buyers. They were essentially selling vaporware.
  • FOMO: Bitcoin mania had reached watercooler status. I was hearing about Bitcoin from friends, colleagues, even Uber drivers. When ordinary people start to invest based on nothing more than speculation or fear of missing out (FOMO), it’s historically been a telltale sign of a bubble.
  • Debt: The final stage of a bubble happens when individuals and companies start borrowing money to feed their greed and FOMO; a sure sign of the peak.

Although each of these factors were present with Bitcoin, it was an action taken by a beverage company that compelled me to write the article. Long Island Iced Tea had just seen its stock rise over 279% after announcing it was changing its business model and name to Long Blockchain. (Blockchain is the underlying technology that powers Bitcoin.)

Alas, there it was again; the ridiculous name change. How is Long Blockchain doing today? The stock is down over 90% and management is the subject of several lawsuits about market manipulation.

In his recent bestseller, Principles: Life and Work, hedge fund guru and billionaire, Ray Dalio, writes that one of the core principles behind his firm’s success is studying past behavior and then applying those learnings to current market conditions. Dalio and his team follow this process because they know from great experience that patterns tend to repeat themselves, especially when human behavior is involved.

The tulip craze wasn’t the end of flowers, the bursting of the internet bubble wasn’t the end of the internet and the Bitcoin crash won’t be the end of blockchain or cryptocurrency. It’s just the end of the irrational exuberance phase.

There will always be those looking to make a quick buck from a hot trend or speculation.  However, for those who want to create a business or product that offers true long-term value and is “bubble-proof,” the focus must be on creating real value for customers over the long term.

That’s a formula that historically works every time.

Quote of The Week

“Those who cannot remember the past are condemned to repeat it.”

 

George Santayana

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