Like pretty much everyone else, I was caught up in the Bitcoin speculative bubble of late last year. During the frothy times, I entertained ideas of grandeur, where I would run a bitcoin hedgefund in Cape Town with my friends and we’d live large and eat oysters. I didn’t pursue the dream, for obvious reasons, bitcoin was overheating and in a bubble.
I’m fascinated by financial bubbles. They occur more than they should, and they point to a severe flaw in the human mindset. We’re lucky though, because they occur frequently, academics have distilled the pattern of a bubble into five stages. This pattern was originally put together by Charles P. Kindleberger.
- Displacement: Some change in economic circumstances creates new and profitable opportunities for certain companies.
- Euphoria or overtrading: A feedback process sets in whereby rising expected profits lead to rapid growth in share prices.
- Mania or bubble: The prospect of easy capital gains attracts first-time investors and swindlers eager to defraud them of their money.
- Distress: The insiders discern that expected profits cannot possibly justify the now exorbitant price of the shares and begin to take profits by selling.
- Revulsion or discredit: As share prices fall, the outsiders all stampede for the exits, causing the bubble to burst altogether.
Bitcoin is somewhere in the Revulsion stage right now. Insiders took profits and the outsiders have since flocked for the exits. The remaining people in Bitcoin are probably the diehards, those that are too stubborn to sell (me), and those that are waiting for the tax issues to be cleared. Where will the bitcoin end up? In most cases, the commodity or company settles down and trades at levels well below the peak. I think we will end up there for bitcoin, and I’m hoping to see the market stabilize for a few months to calm the animal spirits still lingering out there in the market.