Speculators panic, bubbles burst, then we start over

September 13, 2011
By: Eric Lundin

Invest, invest, invest. The modern world has no shortage of ways to invest money if you have a little extra cash sitting around: real estate, commodities, stocks, corporate bonds, government bonds, and so on. Some specialized firms even invest in money, writing forward contracts to buy or sell currency at a future date, hoping that the value of the currency will decrease or increase in the meantime.

Regardless of an investment’s long-term potential, investors aren’t always patient, prudent, or rational. Investments are vulnerable to the whim of the masses, which is more than enough to send the value of a sound investment up a steep slope and over a cliff.It was speculation—probably moderate at first, but inevitably a frenzy—that sent the Dow Jones Industrial Average from a low around 65 in 1921 to 380 or so in 1929. It later fell to around 40 when it finally hit bottom in the early 1930s.

That one is the most well-known, but there were others. The DJIA lost 40 percent of its value when it fell from 1,051.7 in 1973 to 577.60 in 1975. The drops in 2003 and 2009 were similar in scope, with losses around 30 percent and 50 percent, respectively.

Did the value of all those companies really fall 30 or 40 or 50 percent in a few months? No. These were just bubbles, driven by speculation, greed, and herd behavior.

Speculative bubbles aren’t always so large, and the consequences aren’t always so devastating. In January 2008, crude oil was trading at $90 per barrel; in July it was up to $145; in December that year it was less than $50.

On the other hand, it was a financial bubble that led to Japan’s lost decades, 20 years of tepid economic growth. The bubble burst in 1989 and Japan’s economy still hasn’t recovered.

Ready for the next big crash? Keep an eye on gold. Considered by many to be a safe haven during turbulent economic times, gold was fairly stable for much of the 1980s and 1990s, rarely costing more than $500 per ounce or less than $250 per ounce.

These days it’s around $1,800 per ounce, having quadrupled in value in the past seven years. If you’re holding some, you probably should think about selling it before you get trampled by the herd.

I know times are tough, but I’d say that fabrication shop owners would get a better payoff from investing in training or new equipment than a commodity that’s likely to drop like a brick.
Eric Lundin

Eric Lundin

FMA Communications Inc.
2135 Point Blvd
Elgin, IL 60123
Phone: 815-227-8262