The Art of Riding the Bubble

It's a great idea to invest during the frothy phase of a bubble - as long as you cash out before the crash. The trick - the risk - is predicting when that's going to happen.

I realized we were in a housing bubble back in 2004, but aside from sighing when friends bought houses as "investment vehicles", I wasn't able to put my realization to much use. I was right about what was going to happen but dead wrong about when: the bubble ended up inflating for another four years, time during which I could have cheerfully flipped properties at great profit had I been able to know in advance when the market was going to peak.

Back in the late 1990s, I remember watching people buy Nortel shares at $100+ per share and thinking they were absolutely nuts - but some of those people sold at the right time and still came out ahead (while others saw their investments collapse to pennies on the dollar).

In both cases, knowing we were in a bubble gave me no competitive advantage.

For example: there isn't a bubble for making & selling value-producing tools & services to small business. Just like there's no "bubble" in learning a valuable and useful trade/skill, regardless of how much the lottery is currently going for.

Bubbles are almost always about outsized rewards -- rewards, in other words, that you wouldn't get in a normal, non-Bubble situation. That means overvaluation (of one type or another - don't mean just company prices). On the other hand, being able to demonstrate how your product creates more value than it costs for the customer, a customer who is historically willing to pay for valuable products/services... no Bubble, or really any trend at all, is necessary for that.

(While value-producing services DO go through Bubbles -- e.g. when people/companies jump on a bandwagon for theoretically valuable services that aren't actually going to create value for THEM -- you can almost always still work in that industry and CHOOSE to not participate in the Bubble behavior, e.g. overpricing, overstaffing, overcommitting, serving customers who "want it" but who will not actually see a valuable return in their case, etc.)

Bubbles are, in a lot of ways, like lotteries. Only in this case, it's not REALLY random chance (not entirely)... if you are clever and well-versed in the industry, you already know 1 to 3 digits of the winning number. So it seems like you have a great chance to "win" an outsized reward for yourself. However, you still don't have the whole picture.

When you look at the averages, and the history of bubbles, you know many somebodies are going to get rich and a few somebodies are going to get ridiculously rich. But the chance that one of them will be you is still low. You're still better off in the long run investing in valuable skills, and creating/selling valuable products.

This is essentially the type of approach that Nassim Taleb ("The Black Swan") advocates.

Of course, all of this only applies if lasting livelihood/wealth is the end result you're after. If what you really want is the thrill of the chase, by all means do the Bubble thing.