Saturday, December 23, 2017

Bitcoin: Are you being pumped & dumped?


The price of Bitcoin, as measured in US currency, has recently skyrocketed. Over the past several weeks I've observed this generate a significant amount of interest in Bitcoin among my work contacts and colleagues. For most of those people, the recent attention being given to bitcoin is their very first introduction to any type of investment vehicle. Although I applaud them for their desire to grow their wealth and change their future, the current Bitcoin frenzy is exhibiting several similarities to both a Pump & Dump scam, and a speculative bubble.

The Pump & Dump:
"Pump and dump is a scheme that attempts to boost the price of a stock through recommendations based on false, misleading or greatly exaggerated statements. The perpetrators of this scheme, who already have an established position in the company's stock, sell their positions after the hype has led to a higher share price. This practice is illegal based on securities law and can lead to heavy fines."
Pump & Dump specifically refers to a scam in the stock market, and in that context it is illegal. However, Bitcoin is not a stock and is not subject to the same protections. If you are receiving panicked emails from Bitcoin related companies and newsletter's urging you to get into Bitcoin before it's too late, you are being pumped. Fear is a known tactic used by marketers to whip up emotions and encourage consumers to buy products. Examples of fear in this context are currency collapse, nationalization of retirement accounts, and stock market crashes. Although these are legitimate concerns everyone should address in their investment portfolio, it is not wise to allow simple concerns to grow into full blown fear which then becomes the all encompassing basis for making panicked, phobia based investing decisions. Investments made emotionally generally turn out to be money losers.

If my last paragraph enrages you to the point that you are scrolling to the bottom of the page to leave a nasty comment about how ignorant I am, then you have fallen prey to another predatory pump & dump tactic: brand tribalism. If you feel compelled to vociferously defend the honor of your chosen product (e.g. Bitcoin and the honor of your fellow Bitcoin owners), congratulations... you have joined a tribe. As a soldier of that tribe you have a duty to defend the rest of the tribe from foreign invaders who threaten the integrity of your tribe.

The Speculative Bubble:
"Tulip mania... was a period in the Dutch Golden Age during which contract prices for some bulbs of the recently introduced and fashionable tulip reached extraordinarily high levels and then dramatically collapsed in February 1637... At the peak of tulip mania, in February 1637, some single tulip bulbs sold for more than 10 times the annual income of a skilled craftsworker."
Bitcoins smell a lot like tulips. In this 17th century speculative bubble, panic buying drove the price of the insignificant tulip bulb to insane levels, right before panic then caused the price to reset back to normal... which is something far less than 10 times the income of a skilled craftsman.

Any time something increases in price by 1,500% within one year, you should be alert to the possibility of a speculative bubble. Similar to tulip bulbs, there is nothing more tangible apparently behind this recent rise in the price of Bitcoin than social panic. There hasn't been a sudden decline in the quantity of bitcoins, a sudden increase in the utility of bitcoins, or sudden increase in the intrinsic value of Bitcoin (because there isnt any... it's just as much a fiat currency as US dollars). Panic buying is driving up demand, which is causing the price to shoot through the roof. Its price is in fact now approaching the annual income of a low wage earner in the US, and certainly far exceeding the annual income of workers in some less developed countries.

Discussion:
“And if they insist on trying to time their participation in equities, they should try to be fearful when others are greedy and greedy only when others are fearful” 
 Warren Buffett, 2004 Annual Shareholder Letter.
Warren Buffett made his billions being greedy when others are fearful, and fearful when others are greedy. The current ferver surrounding Bitcoin ownership mirrors the behavior of people buying Powerball tickets whenever the jackpot reaches $100 million, and should frighten away any responsible investor. This is a distinctly different fear from that used by marketers to sell their products, since it is disconnected from the groupthinking, irrational fear associated with tribalism. As I have previously explored, people lose the capability for critical thought in large groups. Buffett, and another major player - JP Morgan Chase CEO Jamie Dimon - have both spoken out about the dangers of investing in Bitcoin and other cryptocurrencies. When incredibly successful and wealthy investors deign themselves to offer advice to the rest of us, it is wise to listen. 

In 1929 a wealthy investor named Joe Kennedy dumped his stock portfolio just prior to the Black Tuesday market crash after a shoeshine boy gave him a hot stock tip. Kennedy figured that if shoeshine boys were giving investment advice, then the market was overbought and the bubble was about to pop. Several days ago, a CNA at the hospital give me a hot tip to buy some Bitcoin. Please, my friends, get out of Bitcoin now before you are dumped!


2 comments:

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