How to create a speculative bubble and profit


Recently I read an enlightening story in the New York Times about the Pu'er tea bubble in Yunan, China.  The burgundy fermented teas fetched prices of $150 a pound at the peak, but now sells for less than a tenth of those prices.  I have actually been to one of those tea houses in Yunan, and I have also seen the rise and burst of the housing bubble in America.  These experiences make me think that there is a certain formula to creating a speculative bubble out of anything, and here is what I have gathered.

1. Create a magical backstory for your product 
- In the tea houses of Yunan they told us the story of the accidental invention of Pu'er, and how it cures many diseases and also aids dieting.  In America homeownership is touted as "The American Dream".  Both of these products were given an emotional and almost mystical backstory that made people covet them.  The magical backstory should make people believe that they will be improved in some manner by your product, and that owning your product is an ideal to strive for.

2. Market your product as an investment  -  After people start to buy your products, it is important to make people believe your product is a great investment. In the tea houses they told us that they buy antique teas back as if they were gold, and paid more for older teas. Thus they have a saying that Pu'er gets more valuable as it ages.  It sounded a bit incredulous, but it was also attractive.  In America, I have no idea how many times I have heard that a home is the best investment you can make.  Once money is involved, the product also appeals to greed.

3. Pump and dump - If you have a bit of capital, a great way to inflate the bubble is by buying up a lot of the product being promoted and then selling it to new people caught up in the fervor.  In Yunan wholesalers bought teas back at a markup of nearly 30% a year and then sold it again to new "investors".  In America there was a frenzy of flipping homes by individuals and large corporations that bought up land.  The same happened during the dot com bubble, when investors that bought into the high technology religion snapped up every related stock they could find and quickly drove up prices.  The key is to dump all the inventory before the demand dries up, and that is the hardest thing to do.

A classic book about speculative bubbles is Extraordinary Popular Delusions and the Madness of Crowds written  by Charles Mackay  in 1841. It details the dangers of mob mentality in investing and other aspects of life. Indeed, it is very difficult for one person to blow up a gigantic speculative bubble.  It took entire industries and various government efforts to inflate the asset bubbles we have seen in recent years.  I have no doubt that we will see more asset bubbles in the future, as they are testaments to human nature.  The key to surviving them and maybe make a profit is to keep your emotions in check, and do not be so greedy that you are left holding the bag.  Of course, this is all easier said than done. 

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Guest's picture

Mackay's books appear to be on Gutenberg also.

This makes me wonder what the next bubble will be?

Just since the market crashed I have had people trying to sell my on various survivalist products (ala y2k) and some lame scheme that claimed you will make millions. The scheme involved giving them a couple thousand dollars to join in. The scheme was just using things like Linkshare to get % referrals for online retailers. This scam seemed to be targeting church groups of non tech savvy people.
It seems like there is always one of these floating around. It makes me wonder how they go from small time scam to big time bubble.

Guest's picture

My husband was really interested in house flipping. His sister is a real estate agent and she was buying houses, having him fix them up, then flipping them. She was getting all the big money while he was doing the hard work. I was a little hesitant about it, and luckily it never got to the point where we actually invested in a home ourselves. Then the bubble burst and all the work his sister was sending his way dried up, since she was having problems. It was very tempting the thought of making a lot more money, but I'm glad we didn't get stuck with a second house payment.

Guest's picture

LOL great post! Let's all get to work on our bubbles!

"To get rich is glorious." --Deng Xiaopeng

Guest's picture

A forth ingredient: Easy Credit, Easy Money
A fifth ingredient: Allow investors to invest risk-free

Both of these ingredients helped the housing bubble to be what it became.

The next bubble? Bonds & Treasuries. Eventually they will tumble from their lofty levels causing pain and suffering.