If I could strike one word from Wall Street’s dictionary, it would be “Bubble”. It is too often used in place of actual research and now seems to simply denote any asset that rises quickly in value, gets broader attention, and then rises some more. Even worse, since the Financial Crisis the word only seems more popular. Calling bubbles has reached its own bubble…
But since the word’s usage in finance is too entrenched to wipe it away, we should at least differentiate between systemically harmful bubbles and simple curiosities. For example:
- Harmful: the NASDAQ bubble in 1999/2000 caused $2 trillion of value destruction when it burst in late 2000 – 2002. It had a hand in slowing US growth and damaged a whole generation of investors’ confidence in equity markets.
- Nearly deadly: the 2007 US housing bubble set up the Financial Crisis and Great Recession, with global effects running to the tens of trillions of dollars.
- Curiosity: by contrast, this year’s bursting of the crypto currency bubble was much less meaningful both in terms of size ($620 billion lost from January 7th peak to now) and impact on the broader global economy (essentially zero).
- Curiosity: legal marijuana stocks – the latest group stuck with the “bubble” moniker, are even smaller than crypto currencies. The largest one by market cap – Canopy Growth – has a market cap of $15 billion. Tilray’s market cap is $13.5 billion. Aurora Cannabis’ market cap is $9.0 billion, and Cronos Group is $2.4 billion.
If they all got cut in half tomorrow, it wouldn’t matter to anyone other than current holders.
To our thinking, the more interesting question about bubbles is “Why do they form in the first place and how can I be early in finding them?” As far as we can see, every investment mania of the modern era is the same and has varying degrees of these 5 features:
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