Learning how to resist the siren song of bitcoin

2017 has been the year of bitcoin. In a normal year, stock market gains of 20 per cent would generate lots of excitement, but not in 2017. Instead, bitcoin's extraordinary ascent from $1,000 to above $17,000 has entranced the masses; "how to buy bitcoin" was the second-most searched "how to" question of 2017, Google announced last week. The desire to get rich quick is motivated by more than greed; feelings of envy and resentment are equally important. Increased interest in bitcoin brings to mind a recent advertisement by US brokerage E-Trade, where an obnoxious young man parties with models on an enormous yacht. "The dumbest guy in high school just got a boat," the ad says. "Don't get mad; get E-Trade." As bitcoin continues to defy the doubters, resisting its siren song is getting increasingly difficult. It was easy to mock "digital tulips" at $500 and even at $1,000, noted Michael Batnick of Ritholtz Wealth Management last week, "but it got a little bit harder at $5,000, a lot harder at $10,000 and, at $15,000, you probably feel like a moron." Batnick offers some sound advice for investors dealing with such feelings, quoting an old line from Charlie Munger, Warren Buffett's right-hand man at Berkshire Hathaway. "Someone will always be getting richer faster than you," said Munger. "This is not a tragedy."

No point wishing you’d invested in Apple

Apple celebrated its 37th birthday as a public company last week. It is now the world's most valuable company, and an initial $1,000 investment in the stock would be worth over $400,000 today. Investors like to fantasise about these cases and how they could be lapping it up on a tropical island if they'd only stuck a few quid into Apple or some other super-stock, but don't cod yourself. No one knew Apple would conquer the world. In 1980, tech investors were equally excited about Commodore, Atari, Texas Instruments and other computer makers.

Apple was seen as risky – so risky that Massachusetts regulators barred residents from trading the stock. But if you did buy Apple, would you have held on to it? By 1985, Commodore shares had tripled but Apple's had gone nowhere. Apple's future looked bleak for most of the 1980s and 1990s. In October 1997, Michael Dell suggested the company shut itself down. Shares remained in the doldrums before finally taking off in 2003 – a 23-year investor famine. How many investors would have held on for 23 years and watched their stock disappoint time and time again? Picking tomorrow's winners is hard enough, but holding onto them is harder still.

Overbought stocks still look good for 2018

For the first time ever, the S&P 500 is on target to rise in every single month in a calendar year. Not only that, Bloomberg reports the index recently reached its most technically overbought level in 22 years, as measured by the relative-strength indicator (RSI). Bears protest that it's surely unsustainable. Is it? The stats might sound scary, but such momentum should not be viewed in a sinister light. Stocks rose in 11 out of 12 months in 1958, 1995 and 2006, notes LPL Research's Ryan Detrick. Stocks advanced in each of the following years, averaging gains of 10.8 per cent. That's a small sample size, of course, but the data regarding extremely overbought markets is more compelling. Detrick found 13 previous instances where weekly RSI levels resembled today's. A year later, stocks were higher on all but one occasion, averaging gains of 12.8 per cent. In other words, this is not a contrarian warning signal; it's an indicator that further gains await in 2018.

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Don’t expect average returns in 2018

Talking of 2018, Wall Street strategists envisage relatively modest gains for the year ahead, the consensus forecast being that stocks will gain around 7 per cent. Such forecasts seem realistic. After all, stocks climbed more than 20 per cent this year, more than twice their historical average, so it would be prudent to assume things will revert to normal in 2018 – right? Wrong. Double-digit gains are not an outlier in stock markets, notes Ben Carlson of Ritholtz Wealth Management; they're the norm. Stocks have gained in 66 of the last 90 years. During those 66 years, returns averaged 21 per cent, with the vast majority of years seeing double-digit gains. During the down years, losses averaged 14 per cent. In contrast, just four of the last 90 years saw gains in the supposedly normal 8–12 per cent range. In other words, stocks might gain another 20 per cent in 2018 or they might suffer a painful double-digit decline – neither occurrence would be remotely strange. Investors should resolve to ignore the forecasts, keep a cool head and remember calendar-year returns are rarely average.