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Couldn’t we all use a hug right about now?
Around Christmas 25 years ago, desperate parents were paying over $1,000 for a Tickle Me Elmo doll that retailed for less than $30. Because they did not want to deny their little ones this popular toy, these parents created an economic bubble — a lovable, huggable, red furry bubble.
Let’s see how this applies today.
We all know from economics about the supply and demand curve. Roughly, as demand increases suppliers charge more and make more until either the price reduces demand or there is an abundance of supply. But really, everything is a demand issue.
Prices are generally rising because people who have cash are demanding goods and services and are willing to pay for them. There would not be supply shortages if there was no demand. Prices stop rising on nonessentials if people hold onto their wallets.
Bubbles get created for basically two reasons: demand is overwhelming and time horizons shrink. The real estate bubble in 2008 didn’t occur because financing was so easy and rates were low. It occurred because home buyers were worried about missing out and investors found what they thought was a sure-fire way to make easy money by flipping houses. Low interest rates simply made acting on the fear and greed easier. In today’s real estate market, fear and greed still exist, it’s just that rising interest rates may make it harder to act on those impulses.
Bubbles need demand and compressed time horizons to occur. For example, there is a legitimate place for cryptocurrencies. They are an alternative to fiat money. But there are over 10,000 active crypto currencies now. The rush into something like Dogecoin or Shiba Inu was not based on a well articulated investment philosophy. The volatility of those currencies came generally because they were irrationally bid up by people who thought they could make a lot of money in a short period of time. The problem with bubbles is that those in early are often highlighted for their keen insight rather than their reckless abandon.
There is a difference between investing and speculating and bubbles are about speculation. No one who is investing in a bubble believes they are doing so at the time, but they may not realize they are succumbing to one.
If you are jealous about someone who made a bunch of money on a short-term bet, you are susceptible to “bubbleism.” I am purposely not calling short-term bets investments because the short-term nature precludes it from being so.
Over the last couple of years, we have seen this in many of the pandemic-outcome stocks — Zoom, Peloton, etc. — that were trading on unrealistic earnings expectations and garnering tons of attention. A company’s value is what someone is willing to pay for its future earnings and its dividends. Zoom and Peloton may have been, and still could be, good companies, but it doesn’t mean they were good investments. The fact that their prices went up several multiples did not mean that you were an idiot for not participating.
When you consider investments, you need at least a three-year horizon. You need to own investments in which you are comfortable because of the research you have done. If the market disagrees with you, check your premise. You may still be right, but just early. But if your reason for buying the stock changes, then you should sell it. You are acting on a bubble if the envy you feel for someone else’s luck makes you do something you would not normally do.
If you are worried that if you don’t jump on something right now that you will miss your chance, you are dealing with “bubbleism.” We are not back in 2008 for real estate, but we have certainly seen price increases that bring back memories. Those memories are not fond.
If you are hoping to be able to retire to a warmer climate in a few years, don’t accelerate your purchase today. We don’t know what prices are going to do, but your annual cost of homeownership is usually a pretty significant percentage of your down payment. If prices go up, you still have saved the money that you would have spent for a little-used asset in the meantime.
Some of the bubble stocks have popped and homes are staying for sale a little longer than they had before. You can buy one of those original Tickle Me Elmo dolls for far less than at their heights. Rather than jump on the next craze, you may be better off picking up one of those as a bubble reminder.
Related: Crypto, Losses, Capital Gains? How To Think About Taxes in Investment Decisions