Bear markets reveal economic mistakes. In 2000 the mistake was investing too early in the Internet, resulting in the Dot-Com bust. In 2008 it was loaning too much money on easy terms to home buyers. This time the mistake was leaving interest rates too low for too long.
Practically “free money” encouraged speculation in unproductive assets: Newly created companies with no profits (Peloton), NFTs (don’t ask), and crypto-currencies such as Bitcoin.
While there is a limited supply of Bitcoin, there is an unlimited supply of Bitcoin copycats. At last count there were over 20,000 crypto-currencies, most trading for a few cents. Since November over $2 trillion of value has been lost in the crypto markets, triggering several high-profile bankruptcies.
While relatively small, the financial ripples caused by these losses in crypto have contributed to the panic selling in the 2nd quarter. The original crypto speculators were joined by hedge funds and even conservative financial advisors who believed this was a new asset class that should be included in a diversified portfolio. (Never forget “diworsification”)
Bitcoin will survive, but thousands of other cryptocurrencies will go to zero. Added to all the newly minted tech companies highlighted in our May 13th letter that have collapsed, there’s a lot of permanent value destruction in the financial markets.
Bear markets end when the mistakes have been admitted, recognized and paid for. Once that process is complete cash returns to the markets and investors buy back the great companies they sold in a panic. We know this bear market will end and which stocks will be bought back first. We just don’t know when that will happen.
Daniel A. Ogden