“Lord, what fools these mortals be!” –Puck, A Midsummer Night’s Dream
As a young investment advisor, I got my first taste of what psychologist’s call, very appropriately, Fear Of Missing Out, (FOMO) with the Beanie Babies craze. In 1995 a new and novel tool, the internet, became widely available to Americans. This new technology, which encourages and fosters crowd behavior, no matter how irrational, created the first internet sensation, Beanie Babies.
Using clever marketing, and by limiting supply of the Babies, the company Ty, Inc. created a marketing and investing fad. It may seem unbelievable now, but consumers snapped them up as they were only going to go up! And they were going up! How did one know that? Because one’s friends were buying all they could! FOMO creates the desire to hurry so you don’t get left out. I had to beg, and that is not too strong of a verb, to get some of my clients not to plan on using Beanie Babies as a retirement asset.
Beanie Babies didn’t produce a stream of dividends; didn’t have earnings, so there is no claim on future cash flows. But for a while they really did go up! And the economic theory around that is known as the Greater Fool Theory. The “investor” bought the Beanie Babies at one price and hoped a “Greater Fool” would pay more for them later. FOMO and Greater Fools are connected at the hip. And in every bubble since the Dutch Tulip Bulbs of the 17th Century, there were Fools willing to accommodate. Unfortunately, when the bubble pops, as they inevitably do, the Fool at the end of the spectacular rise ends up holding the bag.
Fast forward to 2022 and one can clearly see the Beanie Babies economic behavior of the 1990s is true for today’s cryptocurrency speculators. As many of you reading this know, I purloined Warren’ Buffet’s apt term for crypto: rat poison squared. Some of you discussed crypto with me and know that I am no fan. But bubble behavior and FOMO were in full steam in the crypto market and the steady rise was just so tempting. However, one great advantage of knowing history and economics is that it’s not difficult to identify a bubble. The difficulty is trying to predict when it will pop. But pop it will, and popped it has. As I write this today, some two trillion of “value” in crypto has evaporated; on June 15, 2022, the Wall Street Journal, on page 1, above the fold reported, “Coinbase to Cut 18% of Staff As Crypto Meltdown Worsens.”
Let’s hope that the rout doesn’t get any worse. To quote a departed friend who was an academic economist, “there’s no such thing as a free lunch.” Despite all the history that is right before our eyes, a significant number of people want to speculate.
And heck, a little speculation is fun. That’s why casinos are so profitable, but one should never confuse speculation with investing.
Investing links each asset in an investment portfolio to an investor’s goals, and risk tolerance. Here at NSG our investment portfolios typically have at least three goals: 1) the investment assets should have a positive expected returns 2) assets must be diversified to help mitigate uncertainty 3) and there must be liquidity provisions which will be required for short term expenditure needs. After nearly three decades as a fee-only, fiduciary investment advisor, I remain stunned that so many investors shun the traditional tools of investing that have served us so well: traditional stocks, corporate and government bonds, publicly traded REITs are all priced to give investors a positive expected return, and they do. We have six decades of robust statistical and economic analysis to support this approach.
Investors have enjoyed a very long, and profitable run, in stocks. For the past twelve years the S&P 500 has returned 17.6% annually. That wonderful compound return has bred a considerable amount of complacency on the part of investors. Complacency breeds speculation. For the past couple of years, I have had to battle the return of private equity, cryptocurrency, SPACs, NTFs, non-publicly traded REITs, TESLA, FAANG stocks, and Cathy Wood’s ARKK. All these current fads echo the 1990s: The Motley Fools—their dot com picks especially Iomega; ARC an infamous non-traded REIT that went belly up; IPS Millennium Fund, and this is from memory as it is bankrupt and no longer traded—but up 108% in 1998, another 200% in 1999 and then totally bust in 2000. The fund was managed, as these fads normally are, by a cool guy who was a well-educated active manger with a PhD and a CFA. His thesis was the economy was more like an eco-system (it always helps to have a cool idea and equally cool founders—see WeWork and Adam Neuman or Theranos and Elizabeth Holmes) than the traditional view of value and revenues. Indeed, the manager of IPS Millennium told me in a public debate that economists’ fixation on valuations was an outmoded idea and dangerous. That sounded great to his audience in 1999; by 2000 valuation was in vouge again and his fund was bankrupt as were his “investors.” Both Newman and Holmes fit this very mold too—what’s cooler than Ms. Holmes’ blonde hair, black turtlenecks and the fact that she dropped out of Stanford? For “business publications” such as Forbes and Fortune the Holmes and Newman stories were cat nip. Go back and read their fawning articles on these two pioneers, Ms. Holmes and Mr. Newman. These so-called business publications should truly be embarrassed.
And now the same financial press that fawned at the WeWork and every other “alternative investment” has changed horses in mid-stream and now reports that the carnage, to date, in these “investments” is great. Well perhaps, just perhaps, people will learn. “Lord, what fools these mortals be.”
As we negotiate the current market volatility, turn off the noise. Focus on your long-term goals and stick with assets, like index funds and DFA passive mutual funds that have withstood the test of time. The biggest risk is not a short-term correction: typically, we have one every five years or so. It’s the missing out on the positive expected return of equities going forward.