Bubble Times
Aug 17, 2024
One aspect of asset bubbles is the deep psychological differences among the participants when there is a bubble. Most investors travel the spectrum from unbearable flag wavers who don’t want to talk about anything else except their booming investments whether it be stocks, property or Bitcoin to the opposite end where nary a polite word about money is spoken.
According to standard finance theory, sensing a bubble is very difficult, if not impossible, to comprehend. However, we also know from experience that humans have a tendency to both overreact and underreact. One simple way of understanding bubble sis to see whether the bubble narrative stretches credulity whether it be valuation or just plain craziness (usually understood through media headlines and polite dinner party chat). The stronger the bubble, the more it is defended by the winners, the more headlines, the louder the winners crow.
Although you can spend hours arguing whether it is a bubble or not, it doesn’t really prove anything in any factual sense. After all, you can invest in a bubble understanding it is a bubble but also sell out and avoid the worst of the losses. This is what many experienced traders do. They really don't care either way, they just adjust their portfolio according to their investment principles.
The best position for a long term investors is to adjust your asset allocation and to remain largely agnostic about whether it is a bubble or not. The market is what it is and won’t conform to suit you at all times.
All investors want to make money. In order to do that, it is generally best to buy low and sell high, but this means we must marry volatility and valuation. Valuation gives us the longer term message about whether prices are bubbly or not and volatility gives us the opportunity to either buy or sell.
This is what experienced investors do. They don’t argue fundamentals or what the market “should” be doing. They simply understand how markets ebb and flow, how markets become fearful and greedy.
Over time, they benefit by keeping it simple rather than trying to deepen the complexity or to seek information which confirms their thesis.
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