For most of us, the motivation to invest is the same… grow our money. Unfortunately, when seeking to expedite that growth, many are destined to play a supporting role in FTX-like stories. Typically, we attribute success to picking the right investment; however, avoiding potentially flawed opportunities is just as important. The FTX debacle serves as a reminder or even an education to invest appropriately.
For the past few weeks, the information has been coming fast and furious on what led to the bankruptcy filing of the cryptocurrency exchange darling, FTX. Whether it’s the founder, SBF (Sam Bankman-Fried), tweeting, appearing on camera at a conference(s), or the astute new CEO charged with dissecting this dumpster fire of a company, the explanation(s) are plenty. Let me see if I can simplify what transpired so we can move on to the real lesson here.
The most plausible working theory is that SBF took client money from their accounts at FTX and moved it to his other company, Alameda Research, a hedge fund. Here, he made trades that went bad, thus driving down the capital reserves of both companies. (BTW: Much of the capital was held in FTX’s token, FTT.) News of this came public, and once a significant rival crypto exchange sold its FTT, demand to sell took over to the point that FTX halted customer withdrawals.
In simple terms, FTX didn’t have the money to return to the accountholders. And down the rabbit hole we go! If you are wondering, none of this is above board. SBF did not have the authority to use account holder assets to make trades at his hedge fund. And as we continue to learn, he participated in even more activities that can be filed under the “NO-NO” category.
While SBF may very well become the poster child of cryptocurrencies shortcomings, he is not alone. Since bitcoin, the grand poobah of crypto, came into existence over 11 years ago, over 2,400 cryptocurrencies have failed! Don’t worry; there are still 8,000+ in existence today to choose from! And while I’m not a crypto expert (not sure one exists), I guess more will pop up. How do I know this? Well, as long as humans have emotions, get-rich-quick schemes will appear… and by the way, this crypto phenomenon is nowhere close to running its course!
I have been approached by many folks seeking my opinion on crypto. And while my tone varies depending on with whom I am conversing (I don’t like to hurt people’s feelings), the main points are always the same:
· Hope Is Not An Investment Strategy: We need to have a clear reason why we invest. Over the long run, we know a stock price (market capitalization) will represent the value of the business. It’s not magic that drives stock prices up (or down). It’s the performance of the company (tangible assets). Can we say the same for crypto? At this point, no. By buying bitcoin today, you are hoping someone will pay more for it in the future. It doesn’t produce cash flow (like a company), it is not backed by a sovereign state (like the USA), and there is no actual use case (like the dollar). When Andy Dufresne told Red that hope is a good thing, maybe the best of things, and no good thing ever dies, he was not referring to crypto.
· Fear Of Missing Out (FOMO) Is Not A Rational Thought: With the FTX implosion, the question most asked on TV is, “How could this happen.” Most likely, this is directed toward the major players (i.e., SBF), but individuals should answer it. And for many people, FOMO is the answer. Maybe a neighbor or a work colleague made a small fortune as a bitcoin early adopter. You get wind of this, FOMO kicks in, and before you know it, you are at the top. This is not a huge problem if you have sound reasoning to own bitcoin. But if it’s a FOMO purchase, good luck ascertaining when to sell, buy more, or hold. FOMO is driven by greed, and anything done for greed generally does not end well.
· Invest In What You Know (Or At Least Can Understand): Most importantly, subscribing to the adage that there are two rules to investing… 1) Don’t lose your money, and 2) Never forget rule #1 should keep us from investing or speculating in something we don’t understand. We are dealing with real hard-earned money. There are zero reasons to subject it to something that does not possess a clear thesis that will lead to investment success. When we buy Home Depot stock, we know this company serves the housing industry. An industry that continues to grow via new construction, repairs, and remodels. To simplify… we can see houses! With crypto, what are we investing in… Satoshi Nakamoto?!?!
Crypto is not the first new shiny object that has garnered the public’s interest resulting in early adopters realizing sizable gains. And it’s not the first to burn many speculators. Over time, it may very well become something and enrich many folks. And that’s great for them.
Last time I checked, there isn’t any law that says we ALL need to get in on the “next best thing” every time it comes around. It’s okay if others make some money and you don’t. We need to control what we can, and that’s staying focused on making good investments; over time, they will serve us well. Unfortunately (or fortunately), FTX is a harsh reminder of what could happen when straying from this path.
Note: Nothing in this letter should be considered investment advice, research,
or an invitation to buy or sell any securities.