Bitcoin Bonanza!

I have tried so hard to avoid talking or writing about Bitcoin – I don’t know enough about it and fear my ignorance could leave me sounding like one of those early news reports about the internet.

But I can’t avoid it.  When something goes up 1,000% in a single year, it gets widespread attention.  Not just in the media, but in the whispers of “did you hear about so and so… he’s now worth millions!”  People start feeling like they are missing out on a golden ticket opportunity, and they want in.

My friends know I work in finance and even though they know I follow a boring, academic evidence-based approach, they can’t help but ask me about it.  Anytime I meet someone new and they hear about my background, it’s the same thing: a starry-eyed “what do you think about bitcoin?”

I really struggle to answer this question.  I don’t want to be completely negative about an idea that clearly excites them.  But when so many people who probably know about as much as I do about something like Bitcoin start to ask me about it and tell me they are considering “investing,” I get a little concerned.  Because those tend to be the people who lose out when speculative manias happen.

As I flew home to Texas after Thanksgiving weekend, I read through my copy of Manias Panics and Crashes: A History of Financial Crises by Charles P. Kindleberger and Robert Aliber.  As I was reading the chapter on speculative manias, a particular section stuck out to me:

“Speculation often develops in 2 stages.  In the first, sober, stage households, firms, and investors respond to a shock in a limited and rational way; in the second the anticipations of capital gains play an increasingly dominant role in their transactions.”

That is to say, at first the price rises as fairly level-headed industry insiders and first-movers adapt to new information – in this case, the fact that bitcoin actually has several very good uses (for a great explanation of those uses read this article) and is starting to gain acceptance.

In the second phase, people get so excited that the price will keep rising and they will surely be able to sell it to someone else later at a higher price that uninformed speculation completely takes over.  I can’t help but feel like we are in the second phase with Bitcoin at this point.

The authors go on:

“The analysis in terms of two stages suggests two groups of speculators, the insiders and the outsiders.  The insiders destabilize by driving the price up and up and then sell at or near the top to the outsiders.  The losses of the outsiders necessarily are equal to the gains of the insiders.

The outside amateurs who buy high and sell low are victims of the euphoria that effects them late in the day.  After they lose, they go back to their normal occupations to save for another splurge 5 or 10 years in the future.”

I couldn’t help but think of my friends who have asked me about Bitcoin and said they were considering “investing.”  Was my passive deflection of their questions a disservice to them?  It is my job as an advisor to keep people from getting caught up in the speculative manias of the day.  But at the same time, I don’t want to be the person who talked them out of buying if it goes to $20,000 over the next year.

For all I know, Bitcoin could go up another 1,000%.  I was some degree of skeptical when it had risen to $2,000 (and even said so on the radio!) but here it is over $11,0000!  It could change the world.  I don’t know.

But that’s exactly my point.  I don’t know.  Investing in something I know very little about that also reeks of a speculative mania sounds like a bad idea, as they tend to end poorly for the outsiders and I would clearly be one of those outsiders.  Perhaps the future will prove me wrong, but I will continue my boring, academic evidence-based approach to investing and sincerely wish Bitcoin investors the best.