After a year of sitting at home, an excitable generation of do-it-yourself traders has been replacing traditional leisure-time activities with online pursuits—including aggressive, Tweet-worthy trading for fun and profit.
The result? Waves of volatile financial feeding frenzies and overnight sensations, egged on by a brood of freshly hatched social media stars, and a spate of flashy new trading platforms with captivating names like “Robinhood.”
When SPAC-Man Speaks
The movement roughly launched in January 2021, when a Reddit-driven rally abruptly sent the prices of several unloved stocks like GameStop through the roof. More recently, special purpose acquisition companies (SPACs) have captured a lot of attention. “When SPAC-Man Chamath Palihapitiya Speaks, Reddit and Wall Street Listen,” observed a recent Wall Street Journal column. “Amateur traders hang on [Palihapitiya’s] every word for clues about his next target—and for the insults he hurls at the high-finance elite.”
Non-fungible tokens (NFTs) have also been taking the trading world by storm. As described in this the Hustle article:
“An NFT can represent any kind of digital asset: a piece of artwork, an audio file, a video clip, a plot of virtual land. The NFT isn’t actually the piece of artwork itself; it’s a piece of code on a digital ledger (blockchain) that points to where the artwork lives — usually on a server somewhere else.”
If you think of an NFT as being like a collectible—say, an autographed baseball card—but in digital format, you’re getting close to envisioning its worth. Similar to playing cards, people are collecting these pieces of code, typically exchanging them in cryptocurrency such as bitcoin.
How much is an NFT actually worth? The answer is up to the market. Right now, some NFTs are trading in excess of $1 million each. As the Hustle article describes, NFTs “have caught the attention of tech investors (Mark Cuban), the high-brow art world (Christie’s auction house), and major corporations (Nike) alike. And everyone from Lindsey Lohan to the rock band Kings of Leon is flooding the market with high-priced virtual creations of their own.” A recent article in the Wall Street Journal noted that electronic-music artist Justin Blau earned $17 million in just the last month from NFTs!
Innovations vs. Investments
These and similar get-rich-quick possibilities may seem shiny and new. And some of the underlying infrastructure truly is groundbreaking. Like the Internet, electricity, and the wheel, intriguing innovations like blockchains, cryptocurrency and NFTs may lead to incredible applications we can’t even imagine at this time.
Plus, at least on paper, there are those who have amassed rapid fortunes by being in the right place at the right time. Trading into the innovations, they’ve caught a wave of risk-laden opportunity; some have gotten very rich in return. Much of the action is highly reminiscent of the 1990s tech bubble, when a trade at nearly any price into nearly any company with a high-tech name seemed sure to pay off handsomely … right up until most of them no longer did.
Time will tell whether these brave speculators manage to convert their good fortune into lasting wealth once today’s trends fizzle or fly. Are these types of investments for you? It depends on whether you want to be a sprinting speculator or a long-distance runner in the wilds of the stock market.
In his book, “The Psychology of Money,” Morgan Housel describes two types of market participants—short-term traders and long-term investors—and why it’s essential to know which one you are:
“Short-term traders operate in an area where the rules governing long-term investing—particularly around valuation—are ignored, because they’re irrelevant to the game being played. Bubbles do their damage when long-term investors playing one game start taking their cues from those short-term traders playing another.”
Charlie Munger (Warren Buffett’s long-time Berkshire Hathaway partner) is even more blunt about the differences between short-term speculators versus long-range investors. Some “may call it investing,” he said in a recent interview, “but that’s all bulls**t. It’s really just wild speculation, like casino gambling or racetrack betting.”
In yet another powerful piece, “Financial Implications of Robinhood Investors,” financial author Larry Swedroe took a look at a recent academic study that analyzed the new breed of stock market participants using Robinhood’s no minimum, zero-commission trading platform. The study found that Robinhood participants tended to be younger; less wealthy; and hungry for more frequent, higher-volatility trades. In aggregate, “zero-commission investors behave as noise traders,” with a market impact similar to past noise trading and inventory risk models.
Hot trends are business as usual in the financial world, albeit a risky business. Fortunes will rapidly rise overnight. But many will fade just as suddenly. A few will strike it rich. Far more will be left licking their wounds … if they’re lucky.
It’s been the same story for centuries. For example, in 17th-century Holland, trade through the Dutch East India Company reportedly brought a period of economic prosperity for Dutch merchants, who started spending their discretionary funds on artwork and other collectibles. Interestingly, some wealthy merchants became interested in collecting so-called “broken” tulips, which according to History.com, were bulbs that produced flowers with stripes or speckles. The tulip-collecting fad, later dubbed “tulipmania,” played out much like the GameStop fad, with tulip prices going up and up and eventually crashing, causing some investors to lose their hard-won cash.
NFTs and SPACS, like tulips, are a dicey way to patiently pursue your long-term financial goals. You may be seeking to harvest returns from the same market, but your end goals are entirely different from those of those so-called “noise traders.” Remember these differences if you ever feel a little left out of all the excitement. It should address your concerns about whether they know something you don’t.
As 16th century Renaissance mathematician and gambler Gerolamo Cardano reportedly once said: “The greatest advantage in gambling lies in not playing at all.”