Bitcoin is Like Autos and Airlines – Buffett Bubble Wisdom

I’ve been reading a lot about Bitcoin lately, and how it and other cryptocurrencies are going to change our world. Hence, people say, it’s going to become an excellent investment and you should hop on it early.

There is much talk about how “Bitcoin will change the world“.  What people are forgetting is that life and industry transforming products make lousy investments for most people. In the book Snowball, a biography of Buffett I’ve read several times, a famous speech of his is recounted and I think folks need to re-learn its lessons today. Note – this is an affiliate link. If you want to buy the book, which I do highly recommend, I’ll get a small commission.

Those Who Do Not Learn From History Are Doomed To Repeat It

The year was 1999. People were mocking Warren Buffett, saying that he had lost his touch. Why? Because they were all getting rich in tech stocks, while Buffett stayed on the sidelines. Check out this article talking all about how Buffett had lost his touch, because the NASDAQ was up 86% in 1999. Apparently the Berkshire stock was worth just under $60k (this was before there were BRK-B shares available). Spoiler alert – today those Berkshire shares are worth nearly $300k.

So people were mocking him, thinking that he was past his prime. Technology was the wave of the future and would change every industry forever. It was the “new economy” and stuffy old things like cash flow, book value, profitability, etc. didn’t matter anymore. Instead companies were losing money like crazy, but still hosting sky-high valuations because they would one day take over the industry and the old companies would go the way of the dinosaur.

Now, Buffett has a policy of never pontificating about the direction of the stock market. But in 1999 he made exceptions, giving several speeches about the long-term future of the market. The first of those speeches was at an Allen & Co party for business leaders in Sun Valley, Idaho, featuring business and technology leaders-many of whom had made amazing profits in the recent tech run-up. What he had to say was a huge bursting of their bubble -and little did they know that it was reminiscent of the larger bubble burst yet to come.

Part of that speech was an overview of two other life and industry changing events that have occurred in the past 100 years – the invention of the automobile and the airplane.

Think for a moment about just how big of a change to day-to-day life those inventions were. My great-grandfather, born in 1903, would have spent his childhood in the same geographical area where he was born. Food would have to be grown locally, and could only be transported by train. There was no hopping on a car to go somewhere quickly, and certainly no quick trips to Europe. In fact, my European ancestors would all have traveled here to the US in boats, on long perilous journeys across the ocean. Not six or eight hour plane rides.

So these two inventions changed peoples lives significantly, and heralded a new age of technological advancement. So what about them as an investment?

From his speech:

“Well, I thought it would be instructive to go back and look at a couple of industries that transformed this country much earlier in this century: automobiles and aviation. Take automobiles first: I have here one page, out of 70 in total, of car and truck manufacturers that have operated in this country. At one time, there was a Berkshire car and an Omaha car. Naturally I noticed those. But there was also a telephone book of others.

All told, there appear to have been at least 2,000 car makes, in an industry that had an incredible impact on people’s lives. If you had foreseen in the early days of cars how this industry would develop, you would have said, “Here is the road to riches.” So what did we progress to by the 1990s? After corporate carnage that never let up, we came down to three U.S. car companies–themselves no lollapaloozas for investors. So here is an industry that had an enormous impact on America–and also an enormous impact, though not the anticipated one, on investors.

…

The other truly transforming business invention of the first quarter of the century, besides the car, was the airplane–another industry whose plainly brilliant future would have caused investors to salivate. So I went back to check out aircraft manufacturers and found that in the 1919-39 period, there were about 300 companies, only a handful still breathing today. Among the planes made then–we must have been the Silicon Valley of that age–were both the Nebraska and the Omaha, two aircraft that even the most loyal Nebraskan no longer relies upon.

Move on to failures of airlines. Here’s a list of 129 airlines that in the past 20 years filed for bankruptcy. Continental was smart enough to make that list twice. As of 1992, in fact–though the picture would have improved since then–the money that had been made since the dawn of aviation by all of this country’s airline companies was zero. Absolutely zero.”

You can read the full speech here, and if you haven’t seen it before, I highly recommend you take a few minutes to pop it open in another tab before continuing. Don’t worry, I’ll wait for you.

Back now? OK good.

On Bitcoin and Blockchain

Lots of people seem to confuse Bitcoin – the crypto-currency – with blockchain, the technology. They are not the same thing. A blockchain is a way of recording transactions among multiple nodes (computers) at a time in a way that’s permanent and unalterable. It doesn’t need to be used for currency. In fact, its most promising use for corporations is in recording other information, like contracts and financial transactions. The article I linked above gives a good overview of the technology.

What’s the advantage to this technology? Well it has no single point of failure and isn’t controlled by a single entity. It’s transparent and basically incorruptible, because you can’t just change one of the transaction records. You have to change all of them.

So blockchain is the technology, and Bitcoin is a cryptocurrency mined using this technology.  A cryptocurrency is a currency backed not by a government (like the dollar), or a physical thing (like gold), but valued instead by its users. It has a history of being used on the Silk Road for illegal transactions (like drugs) because it offers a much higher level of anonymity than credit cards and cash. It’s mined by computers and held in a digital wallet in either the cloud or on your computer.

People have been talking about a Bitcoin bubble for years. About four or five years ago, I remember Clark Howard talking on his podcast/radio show about the bubble in Bitcoin as it hit $1,000. Of course, now that looks like a bargain with it shooting past $10,000. Many folks are comparing it with tulip mania, the famous Dutch financial bubble where tulip bulbs were sold for as much as houses.

Ultimately Bitcoin is worth what someone is willing to pay for it. I read in an article a few weeks ago that this is just like stocks, but I would disagree with that analogy. Stocks are somewhat like that in that they can be sold for much more-or less-than their intrinsic value, but they do represent a value of a real company. Bonds are the same way. Even currencies issued by governments have something to back up the value, although it can be destroyed via hyperinflation. But Bitcoin and other cryptocurrencies have nothing behind them but hopes and dreams. As Mr. Buffett said, it’s a mirage. And he tends to know what he’s talking about. Even if the market is temporarily irrational, it will eventually correct itself. And the patient will be able to scoop up bargains when the opportunity presents itself.

In Closing

So even if blockchain is a revolutionary technology concept, history shows there will be many losers and few winners. Those winners may, in the long run, be unprofitable as the technology becomes widely adopted and part of our everyday lives. And just because blockchain could become widely adopted doesn’t mean that Bitcoin (which is a virtual currency using that technology) will as well. I would predict that as time goes on, it will become regulated. More and more entities will jump on the train of creating their own currencies to try and cash in on the craze. If you want to participate, go ahead, as long as you recognize it for the gamble/speculation that it is and don’t confuse it with an investment.

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