Lead Story…. I’m fairly certain that cocktail party investment banter has been a thing for as long as cocktail parties have. Around ninety percent of the time it’s fairly innocuous and not all that focused on any one asset class in particular – “so and so put his kid through college by investing in Apple stock, “my neighbor made a big profit flipping a couple of houses,” etc. However, every few years an asset class rises to zeitgeist-like stature and comes to dominate the conversation. Back in the late 90s it was dotcom stocks, in the mid-aughts it was real estate and today it is Bitcoin (and other cryptocurrency to a lesser extent). We’ve all seen how cryptocurrency as an asset class went from virtually unknown to the go-to ice-breaker topic in a few short months. I haven’t been to a holiday party yet where Bitcoin has not been a significant part of the conversation. People have made and are making a lot of money (at least on paper) and it’s all the rage right now to speculate where it might be headed next. Amazingly, these epic gains have come with little to no leverage and almost no role from traditional financial institutions. That is all about to change.
Pretty much every financial bubble in history can be generally summed up in the following quote by Scott Nations:
Each collapse has been fueled by a new, poorly understood financial contraption that introduces leverage into a system that is already unstable.
Thus far in the Bitcoin mania, one of the few silver linings that I could find is that bitcoin is not a leveraged instrument and was not fueled by credit excesses and margin accounts. However, that seems to be changing quickly. This is, after all a market where human beings are involved and getting swept up in financial manias is simply part of human nature. We have now entered the full FOMO stage of the mania. The CME has just launched Bitcoin futures, just another step in the road to mainstream after rising over 15x in the past year. Cryptocurrency is now front and center with even casual investors, getting the front page treatment in major publications, it’s own ticker on CNBC and center stage as a conversation topic at holiday cocktail parties everywhere. People are taking notice and, just as with previous bubbles are starting to find ways to bite off more than they can chew by levering up. SEC Chairman Jay Clayton felt compelled to issue a warning letter about Cryptocurrencies and ICOs this week that opened with the following statement (emphasis mine):
The world’s social media platforms and financial markets are abuzz about cryptocurrencies and “initial coin offerings” (ICOs). There are tales of fortunes made and dreamed to be made. We are hearing the familiar refrain, “this time is different.”
The reason that the SEC is so concerned is likely that people are starting to do some really stupid things with leverage in order to acquire as much precious virtual currency as possible and invest in a highly volatile asset class that many of them know nothing about. From Michelle Fox at CNBC (emphasis mine):
Bitcoin is in the “mania” phase, with some people even borrowing money to get in on the action, securities regulator Joseph Borg told CNBC on Monday.
“We’ve seen mortgages being taken out to buy bitcoin. … People do credit cards, equity lines,” said Borg, president of the North American Securities Administrators Association, a voluntary organization devoted to investor protection. Borg is also director of the Alabama Securities Commission.
“This is not something a guy who’s making $100,000 a year, who’s got a mortgage and two kids in college ought to be invested in.”
The other side of there is another side to this as well: fringe lenders are offering those who bought in early and are sitting on millions of dollars in gains to use their Bitcoin hoard as collateral to take out loans with onerous terms typically in the range of 50% Loan to Value with interest rates as high as 20%. It’s expensive for sure but better than selling an incurring a capital gain – at least in the eyes of someone who has seen their Bitcoin holdings go up 20% sometimes in one day and believes that it could soon be headed to $100k. Wonderful.
With all of the publicity after a massive run up in value, it’s not really surprising that this is happening on either end. After all, why invest $100k when you can lever up using other people’s money, invest $200k and make double the profit for the same investment (minus interest)? The problem is that if the speculative asset goes down in value, the consequences are far worse than they would be if leverage wasn’t involved. An investor who speculates with his own capital only stands to lose 100% of his investment if the price goes to zero in the worst case scenario. However, an investor who speculates with other people’s money stands to lose more than his own capital if the price goes to zero since he will still owe the lender the money that he borrowed. At a small scale this probably doesn’t move the needle in terms of potential economic impact. However, at a large enough scale it can create a serious risk to the economy. Remember back in the subprime boom when people took out loans against the equity in their homes to buy more houses because real estate always goes up in value? It ended incredibly poorly when that leverage reached a critical mass and values stopped increasing. Bitcoin speculation is a much, much smaller market than that but I still can’t see any scenario where it’s wise to take out a loan against your house or otherwise to buy an asset that sees wild swings of over 20% in a 24-hour period on a regular basis. Just remember, it’s possible to be wrong about something even if you make money (using debt to purchase a highly volatile asset would be one example). Pretty much everyone who has purchased Bitcoin to date has been proven “right” in their own minds by making money. It won’t stay that way forever.
Brace Yourselves: JP Morgan and Citigroup are warning investors to prepare for the steepest rate hikes since 2006 in 2018.
Forging Ahead: The Fed raised rates by another 1/4 basis point on Wednesday. See Also: For the first time in nine months, the market expects two Fed hikes in 2018. But See: Bond markets are signaling an economic slowdown despite the Fed’s current trajectory.
Still in the Early Innings? How co-tenancy agreements could lead to a death spiral for many American malls as anchor tenants continue to go dark.
There’s a Metaphor in Here Somewhere: An illegal cooking fire at a homeless encampment allegedly sparked the Bel-Air blaze that destroyed homes. Perhaps this will finally cause rich NIMBYs to recognize that homelessness, resulting from high rent as a result of too little new housing being built impacts everyone…..but I’m not holding my breath.
Something From Nothing: Regulations allowing San Francisco property owners to convert common spaces into accessory dwelling units have brought forth a flood of applications to carve new apartments out of everything from garages and basements to old boiler rooms. This won’t solve the affordability crisis but it’s absolutely a step in the right direction.
Bank on It? Why 2018 could be the year that online giants like Amazon and Facebook make a move into the finance space.
Uplifting Profile: Viagra’s incredible run ended last week with the release of a cheaper, generic version of the world’s first impotence-fighting pill. Here’s an oral history of the drug that changed sex and made billions.
Jealous: How one 6-year old – who is far smarter and wealthier than I am – made $11 million in one year reviewing toys on YouTube. Looks like it’s time for Toddler Links and Baby Links to get to work!
Chart of the Day
Wholesale prices of mobile homes are soaring as manufacturers are having a difficult time keeping up with demand. This is exactly the type of thing you would expect to see in the midst of a housing affordability crisis.
Source: The Daily Shot
That’s Comforting: When Kim Jong Un’s BFF Dennis Rodman was asked about the feud between North Korea and the US he replied:
He then went on to characterize the countries’ threats against each other as “entertainment.” Not sure about you but that makes me feel a whole lot better. (h/t Darren Fancher)
Look What You Made Me Do: The suspect in a Portland stabbing claimed that Taylor Swift told him to do it.
Gotta Hear Both Sides: A fully naked man jumped onto a moving truck, stabbed at it and then ran into the woods with a tire around his neck in 20 degree temperatures outside of Washington DC.
Get Ripped: A man is facing amputation of both of his arms after injecting them with a homemade chemical concoction that made him look like Popeye because, Russia.
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