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November 19th, 2022

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Investing Lessons From The Crypto Meltdown


The epic meltdown of the FTX crypto exchange is full of lessons for investors. We take a moment to unpack some of them.

Contributed by Doug Walters , Max Berkovich , David Lemire , Eh Ka Paw

Is it fair to say that FOMO is finally dead in the crypto space… at least for now? The collapse of FTX and its embattled former CEO along with a 75%+ decline in the value of Bitcoin over the past year have taken some of the luster off the space. The lessons for investors from this spectacle are priceless.

If you’ve managed to avoid the FTX saga of the past few weeks, here is the abridged version. FTX, the third largest crypto exchange, run by Sam Bankman-Fried (the crypto posterchild), collapsed and declared bankruptcy. One day it was worth $32 billion dollars, and now it is worthless. From the bankruptcy filing, it appears, at best, there was gross negligence and, at worst, criminal fraud. In a largely unregulated business, no one should be too surprised.

So what are some of the lessons?

  • Know the difference between investing and speculating. Cryptocurrencies have only two principal utilities: trading speculation and criminal enterprise. This may change someday, but for now, they have no quantifiable fundamental value, and prices are primarily driven by speculation.
  • Beware of celebrities bearing gifts. Real investments do not need help from actors and sports icons to produce attractive returns for investors. With no real value, cryptocurrencies rely on a steadily increasing base of buyers to prop up prices. Celebrities were willing pawns in this speculation machine. We are now seeing what happens when demand wanes.
  • Liquidity is important, and many liquidity premiums are a mirage. If you can’t sell your investment or access it when you need it, you better be getting properly rewarded for that risk. With cryptocurrencies, you get illiquidity and high (often uncertain) transaction fees for an asset that has questionable value. Not a good tradeoff.
  • Regulation is there for a reason. Purchasing cryptocurrency is the equivalent of stashing money under the mattress. If your house burns down, you have no recourse to recoup those losses. If you forget your crypto key, someone steals your coins, or you accidentally throw your crypto wallet in the trash, you are out of luck.

Investing does not have to be complicated.

  • Keep it simple. You should always understand what you own, why you own it, and what it is worth. If you don’t, move on.
  • Keep it smart. The wisest thing you can do is not try to outsmart the market. Believing you have found a path to quick riches that the collective knowledge of the entire market has somehow missed is foolish. Investing fortunes are built with patience.
  • Keep it selective. You can do better than passively owning the whole market. A Focus on evidence-based factors like Quality, Value, Momentum, and Size has proven over time to produce higher returns. Find proven factors and put them at the core of your portfolios.

It is so easy to get caught in the exuberance of speculation. History is riddled with these examples… tulips, dot-com stocks, US housing… and now crypto and NFTs. They never end well. Investing should not be exciting. If it is, you are probably not investing at all. More likely, you are speculating.

Headline of the Week

It was an interesting week of data, with the stock market cooling off a bit after recent rallies. On the one hand, producer price increases followed suit from consumer prices, increasing less than expected and giving markets a boost. But it is retail sales that we will focus on today.

  • We may be facing a challenging economic environment, but you wouldn’t know if from Retail Sales, which were up 7.5% from last year.
  • The obvious caveat is that a big part of the increase is inflation. If consumption doesn’t change, higher prices mean higher retail sales. Grocery stores, which have been passing on higher food prices, saw retail sales up 8%, while general merchandise stores saw sales up just 2%.
  • Walmart (WMT) and Target (TGT) both reported results and highlighted this inequity. Walmart, which is 50% grocery, surprised to the upside with the shares rising 7%. Target is only 20% grocery and disappointed, with the shares falling 12% on the day.
  • Perhaps the bottom line is that consumer spending growth is still outpacing inflation growth.

The Week Ahead

A very slow holiday-shortened week awaits, with a data dump on Wednesday.  

The People’s Bank

A rate decision is due from the People’s Bank of China on Monday…  

  • There are no expectations for any changes in the rates as the loan prime rate (LBR) for 1 year is expected to stay at 3.65% and the 5-year at 4.35%.  
  • However, the People’s Bank is known for serving up liquidity in other ways besides cutting rates to shore up the embattled property sector.  

Data Driven

With a holiday on Thursday and an early close Friday, economic data will be released on Wednesday.  

  • MBA Mortgage Applications and new home sales will be weak, with new home sales expected to have dropped over 10% from the previous month.  
  • The S&P Global Purchasing Manager Index (PMI) is expected to read below the 50-mark, indicating continued contraction.  
  • Durable Goods Orders are expected to have grown by a small margin in October, matching the September number.  
  • The University of Michigan Consumer Sentiment Index will wrap up the economic data dump and is expected to remain unchanged from the last report.  
  • Finally, the Federal Reserve November meeting minutes will also be released on Wednesday. Investors will be looking for clues on what December 11th rate decision will be. One half of 1% is currently the base case.

The other Football kicks off this weekend

  • The global spectacle that is the World Cup starts on Sunday, with Monday Night Football taking on a different meaning as the USA makes its return against Wales.
  • Saying goodbye to some icons: Two of the greatest players to ever take the pitch – Lionel Messi and Cristiano Ronaldo – are making their last appearance. Messi hopes to finally emerge from Maradona’s shadow and hoist the Cup. While Ronaldo’s best hope is to add to his all-time record for international goals.
  • Standing in Messi’s way are perennial favorites Brazil and defending champs France. However, Germany, Spain, England, and Belgium all boost strong squads.
  • To the USA squad we offer two quotes from slightly different football coaches:
    • “Clear eyes, full hearts, can’t lose” – Coach Taylor
    • “Believe” – Ted Lasso

Happy Thanksgiving!  

About Strategic

Founded in 1979, Strategic is a leading investment and wealth management firm managing and advising on client assets of over $2 billion.