Bubbles are Becoming the Norm

We don’t need an advanced degree to know that markets have gotten more bubbly lately. For those of us who watch the markets regularly, we’ve see an increasing number of parabolic moves over the past several years — from stocks to crypto to commodities.

I believe an increasing activity of bubbles is a natural symptom of our economy’s evolution. The combination of easy money, moral hazard, crony capitalism and regulations stifling competition are creating more and more destructive bubbles. And I think it’s only going to get worse.

A few recent bubbles:

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Why are more and more bubbles happening?

There’s no way I can explain all of this entirely, but I’d like to touch on a few key elements.

A declining and less motivated labor force. The reasons why less and less people are working is not the focus here. The point is that when people don’t work, they turn to unhealthy behavior. They medicate their feelings of dissatisfaction, boredom, hope and disgust for the “system” through drugs, gambling, crime, etc.

As more and more people receive government aid, they don’t feel the sting of not being able to pay bills. We’ve all heard stories about people receiving more money sitting at home during the pandemic than they’d actually earn at work. People are people and they’re going to capitalize on that short-term opportunity.

When people sit home, they need something to fill the hours and the markets, especially with the help of new fancy apps, provide an intriguing solution. With more and more people participating in the markets, we get more volatility and extreme trends.

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Easy access to cheap money. You get bubbles during rapid expansions of credit. When you print money out of thin air and give it to people to spend, how do you expect prices to decline? I’m still trying to figure this one out. For other examples, see The Roaring 20’s, Tulipmania, South Sea Bubble, Japan Asset Bubble, etc.

Malinvestment. During times of easy money, people invest in silly ideas; many of which do not pan out. Shortly before Tulipmania, the Dutch government set up a central banking system. During this spectacular bubble, people traded away small businesses, farms, homes and the family jewels for tulip bulbs. If it was written into a movie, no one would believe it. Who in their right mind would trade the family business away for some tulip bulbs? This is the sort of illogical frenzied behavior you get during bubbles.

Today, I believe we have bubbles in private equity, crypto and most recently NFT’s. In all cases, the business model is centered around money-raising and speculation to drive up valuations. Less emphasis is placed on developing a healthy business that provides a viable good or service.

Moral hazard. Cosmo Kramer said, “Without rules, there’s chaos.” Bailouts don’t promote proper and responsible behavior. When people know they don’t have to play by the rules, they tend to take more risk. This always pushes market prices higher and higher beyond historical norms.

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So, what are we supposed to do? How can we take advantage of bubbles?

I don’t believe it’s our responsibility to try to fix the system by pushing Congress to pass this law or remove some other law. I don’t believe taking to the streets will do much either.

I do believe, however, that it’s our responsibility to take care of our own affairs and get our house in order — to protect our assets, to get and stay healthy and establish a support group of friends and family. These things, I believe, will put us in a great position to survive and thrive during this next economic phase.

A few things we can do:

Position with the trends. Bubbles cannot be understood. They derive from our own irrational behavior. Fundamental analysis doesn’t work. During such environments, good companies experience major declines and bad companies appreciate 10x in value. Nothing makes sense. The best way to survive, and perhaps prosper, is to employ an adaptive investment approach that positions with trends.

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Managing emotions. When emotions run high, as is common during volatile and strongly trending markets, it’s imperative to stay calm and rely on your investing approach. Absent a systematic trends-based approach, it can often be overwhelming trying to figure out what to do when markets are screaming higher or crashing.

Hire a manager. If managing investments is too much work and emotional toil, then hiring a manager could be a good option provided that their investment philosophy, risk tolerance, personal character and costs align with yours.

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