What is mania? It is defined as a mental illness characterized by high excitement, euphoria, delusions and excessive activity. In investing, this translates into investment decisions that are driven by fear and greed, unmitigated by analysis, reason, or risk-reward balance. The mania usually runs parallel to the business development of the product, but the timing can sometimes go wrong.
The technology.com boom of the late 90s and today’s cryptocurrency boom are two examples of how mania works in real time. These two events will be highlighted with each stage in this article.
The first phase of mania begins with a great idea. The idea is not yet known to many, but the potential for profit is huge. This usually translates to unlimited earnings, because “something like this has never been done before”. The Internet was one such case. People who used paper systems of the time were skeptical as “how can the internet replace such a well-known and entrenched system?” The backbone of the idea begins to be built. This translated into the modems, servers, software and websites needed to turn the idea into something tangible. Investments in the idea stage start off without a splash and are made by people who are “in the know”. In that case, it can be visionaries and people working on the project.
In the world of cryptocurrencies, the same question arises: How can a piece of crypto code replace our monetary system, contract system and payment systems?
The first websites were crude, limited, slow and boring. Skeptics would look at the words “information superhighway” uttered by the visionaries and say “how can this really be so useful?” The forgotten element here is that ideas start out worst and then evolve into something better and better. This sometimes happens because of better technology, higher volume and cheaper costs, better applications for the product in question, or better product knowledge combined with great marketing. On the investment side, early adopters are getting involved, but there is still no euphoria and astronomical returns. In some cases, the investments have yielded decent returns, but not enough to make the masses jump on board. This is analogous to slow internet connections from the 1990s, crashing websites or incorrect information on search engines. In the world of cryptocurrencies, this is evidenced by the high cost of mining coins, slow transaction times, and account hacking or theft.
Word is starting to get out that this internet and “.com” is the hottest new thing. Products and tangibility are being constructed, but due to the sheer scale involved, the cost and time involved would be enormous before everyone uses them. The investment side of the equation begins to progress in business development as markets discount the potential of the business with the cost of the investment. Euphoria is starting to materialize, but only among early adopters. This is happening in the cryptocurrency world with the explosion of new “altcoins”, and the huge media press the space is getting.
This phase is dominated by parabolic returns and the potential that the Internet offers. Not much thought is given to implementation or issues because “the returns are huge and I don’t want to miss them”. The words “irrational exuberance” and “mania” are starting to become commonplace as people buy out of sheer greed. Bad risks and negatives are mostly ignored. Symptoms of the mania include: Every company with a.com in its name is red hot, analysis is thrown out the window in favor of optics, investment knowledge is becoming less visible among new entrants, expectations for 10 or 100 returns are common and few people actually know how the product works or does not work. This played out in the world of cryptocurrencies with stellar returns in late 2017 and incidents where companies’ shares rose hundreds of percentage points using “blockchain” in their name. There are also “reverse takeover offers” where listed but dormant shell companies are renamed to something that includes blockchain and the shares are suddenly actively traded.
Crash and Burn
The business scene for new product is changing, but not nearly as fast as the investment scene is changing. Eventually a change in mindset occurs and the big sell begins. Volatility is huge, and many “weak hands” have been wiped out of the market. Suddenly the analysis is being used again to justify that these companies have no value or are “overvalued”. Fear is spreading and prices are falling rapidly. Companies that have no profit and survive on hype and future prospects are blown up. Incidents of fraud and scams increasing to exploit greed have been exposed, causing more fear and a sell-off in securities. Companies with money quietly invest in a new product, but the rate of progress slows because the new product is an “ugly word” unless profits are convincingly demonstrated. This is starting to happen in the cryptocurrency world with overlapping lending schemes using cryptocurrencies and more frequent incidents of coin theft. Some of the marginal coins fall in value due to their speculative nature.
At this stage, the investment landscape is littered with stories of losses and bad experiences. Meanwhile, a great idea becomes tangible and for the companies that use it, it’s a boom. It begins to be implemented in everyday activities. The product is starting to become the standard and visionaries are quoted as saying that the “information superhighway” is real. The average user notices an improvement in the product and mass adoption begins. Companies that had a real profit strategy were hit during the crash and burn phase, but if they have the money to survive, they make it to the next wave. This has not happened yet in the cryptocurrency world. The expected survivors are those with a tangible business case and corporate backing – but it remains to be seen which companies and coins those will be.
The next wave – The business reaches popularity
At this stage, the new product is the standard and the profit becomes obvious. The business case is now based on earnings and volume, not the idea. A second wave of investment is emerging starting with these survivors and expanding into another early stage mania. The next phase was marked by social networks, search engines and online shopping, all of which are derivatives of the original product – the Internet.
Manias work in a pattern that plays out in a similar way over time. Once you recognize the stages and the thought process in each one, it becomes easier to understand what’s going on and your investment decisions become clearer.