At my Saturday pickup hockey game, the dressing-room banter normally revolves around the Leafs, Raptors and Toronto FC.
But last week, as we laced up our skates and threw on our dark and light jerseys, the topic turned to – what else? – bitcoin.
"Say I wanted to invest $1,000, just as a flyer," one of our D-men asked. "How would I do that?"
"Don't," I implored him. "Stick to stocks and ETFs."
As with all speculative manias, it's impossible to predict when the bitcoin bubble will burst or what will trigger its collapse. These things become clear only in hindsight. But when an asset's spectacular gains start drawing in regular folks craving a piece of the action, that's usually a bad sign.
Given the risks and uncertainties, I wouldn't invest the cost of a roll of hockey tape on bitcoin. But I do think it has tremendous value in one respect: as a teaching tool.
Like the speculative frenzies before it – from the South Sea Bubble and Dutch tulip bulb craze to the dot-com and U.S. housing busts – bitcoin provides a classic illustration of investing behaviour gone berserk. As Bank of Canada governor Stephen Poloz said this week, buying the cryptocurrency is "closer to gambling than investing."
That brings us to today's topic.
By recognizing and controlling the speculative impulses that such manias foster, investors can save themselves from costly mistakes and learn to build lasting wealth without being tempted by risky investing fads.
Here are some lessons to draw from the current bitcoin fever.
Don't invest in things you don't understand
Do you even know what a bitcoin is? Can you explain blockchain technology? Can you provide a reasonable explanation as to why a single bitcoin should be worth about $17,000 (U.S.) today – as opposed to the $780 it fetched a year ago ? If you don't understand something or its valuation bears no relation to reality, those are your first clues to stay away. There are plenty of easy-to-understand investments with valuations that do make sense based on their earnings, cash flow or dividends. Bitcoin generates no earnings or income and its value rests almost solely on the "greater fool theory" – a belief that one can find a buyer who will pay an even higher price than you did.
Don't expect to get rich overnight
Over long periods, the stock market has delivered total annualized returns – including dividends – of about 8 per cent.
That's a realistic expectation – and nothing to sneeze at. Investing in something that you hope will double, triple or quadruple in a year – whether it's a penny mining stock, a biotech start-up or a cryptocurrency – is not realistic and will lead you into trouble more often than not. Learning to control the urge to make a quick buck will serve you well in the long run. As the legendary value investor Ben Graham once said: "The investor's chief problem – and even his worst enemy – is likely to be himself."
Don't worry about missing out
We've all heard stories of people who have bought homes and cars with their bitcoin profits. Good for them. I'm guessing we could soon be hearing stories of people who lost homes and cars because of their bitcoin losses. When you speculate, you could win big – or lose big – but you have no way of controlling the outcome. If you invest in blue-chip stocks, on the other hand, you will dramatically increase your chances of coming out ahead – likely way ahead – in the long run, which is what really matters.
Boring is beautiful
If you want excitement, go see the new Star Wars movie. If you want to make money investing, you should strive for boredom. The late U.S. economist and Nobel Prize winner Paul Samuelson put it best: "Investing should be more like watching paint dry or watching grass grow." That's not to say prudent investing can't occasionally be fun or entertaining. When one of my companies pays a dividend or – better yet – raises its dividend, that's all the excitement I need.
Choose a strategy – and stick with it
I like to invest in companies with growing dividends (for specific examples, see my Yield Hog Model Dividend Growth Portfolio). Other people may prefer a passive indexing approach or, if they have the requisite knowledge, investing in value or growth stocks. The important thing is to pick a strategy (or mix of strategies) that suits your knowledge and risk tolerance, and then stay the course. If you're constantly distracted by shiny objects – whether it's bitcoin or some other investing fad – you'll be less likely to achieve your goals.