This article is sponsored by RBC Dominion Securities.
It’s said that history doesn’t repeat itself, but it often rhymes.
I’m old enough to have lived through more than a few major stock market setbacks in my time. I started my career just before the market-wide drop of 1987. In 1996, I saw bank stocks get chopped in half during the Asian financial crisis. Then in the dot-com bubble of 2000, the financial meltdown of 2008 and 2009 and, most recently, the COVID-19 inspired mini-crash of 2020, I watched the markets drop by as much as 40 per cent virtually overnight.
With all these past experiences to look back on, it’s hard not to think that the current frenzy around NFTs, cryptocurrencies and other digital assets bears some remarkable similarities to the pre-bust dot-com era. Then as now, one of the things that stands out most in my memory about that time was the unbridled enthusiasm so many investors seemed to have for putting all their hard-earned savings into things they didn’t really understand.
Here in Ottawa, I remember people literally lining up in the late 1990s for the chance to put their money into a private dot-com company that had no sales, no revenues, and no real prospect of acquiring either anytime soon. Since it was a private company, investors had to invest a minimum of $150,000, and they also had to accept that there was no visible path to liquidity if their investment went sour.
In retrospect, it seems pretty obvious that this was a really bad idea. But at the time, the enthusiasm of all those investors, while misguided, was easy to understand.
After all, companies like the one I just described were going public with huge IPOs on a daily basis, and their private investors were earning returns that would’ve made a lottery winner blush. But while visions of becoming overnight multi-millionaires were fueling all that enthusiasm, most of the investors who were driving it not only had no idea what they were buying. For the most part, they simply didn’t care.
One investor I talked to at that time, for example, compared the “puny” returns conventional portfolios were earning to her all-tech portfolio, which had quadrupled in value over the previous two years. She admitted she had no idea what any of the companies whose stocks she was buying actually did, let alone what their balance sheets, revenues or sales projections looked like. Her only criteria for investing in a company were that it had to be in tech, and its stock had to trade for less than two dollars a share.
This approach did pay off handsomely for a few years. But when the bubble burst in 2000, that investor, and so many others just like her, was almost completely wiped out.
Now, I’m not suggesting that investing in tech companies is in any way a bad idea. Companies like Amazon, Cisco, Microsoft, Facebook and Apple all came to prominence through the dot-com bubble, and they all went on to become some of the biggest and most successful companies on the planet. What I am saying is that the desire to get rich quick led many investors to pour their money indiscriminately into enterprises that had little or no chance of success, and which they had taken little or no time to try to understand. Most of them came away with life-changing financial injuries as a result.
I see many of those same patterns playing themselves out today, with investors lining up (virtually this time) to throw their hard-earned money into things they don’t even begin to understand, often without a moment’s hesitation over whether or not that might be a bad idea. This includes everything from cryptocurrencies and NFTs to hedge funds and even the latest trend-on-the-block, SPACs (Special Purpose Acquisition Companies).
What is it about this new wave of investing that I find to be so troubling? It isn’t the investments themselves. It’s the lack of understanding among investors about exactly what they’re getting themselves into.
In a recent survey conducted by Cryptoliteracy.org, an industry group that promotes consumer education about digital assets, nearly 98 per cent of the respondents couldn’t pass a basic crypto literacy test. This suggests that, once again, there are potentially millions of people out there who are happily buying things they know virtually nothing about.
This doesn’t necessarily mean we’re on the verge of another bubble, or that cryptocurrencies are going to be the next meltdown. But it does suggest that maybe this would be a good time to pause for a moment, take a closer look at what history might be trying to tell us, and ask ourselves if we really know what – or why – we’re actually buying.
This article is supplied by Alan MacDonald, an investment advisor with RBC Dominion Securities Inc. Member–Canadian Investor Protection Fund.