Have Investors Finally Learned Their Lesson From Previous Bubbles?

The past year or two could have been the start of another head-scratch-inducing bubble on the stock market. Groupon (Nasdaq: GRPN  ) , LinkedIn (NYSE: LNKD  ) , Zynga (Nasdaq: ZNGA  ) , and Pandora hit the market, followed by the IPO everyone had been waiting years for -- Facebook (Nasdaq: FB  ) . It looked a lot like the late 1990s, as popular companies with questionable revenue and profit potential came to market with expectations that were through the roof, a recipe for disaster.

But something interesting happened. Instead of foaming at the mouth over these hot names, investors approached them with remarkable restraint. Facebook has been the most high-profile flop, falling 50% in just a few months as a public company, something that seemed impossible a year or two ago. The most popular social network's revenue growth and profitability has been the big question, such a mature question for a market that once cared more about clicks than profits.

The bubbles of old
It hasn't always been this way. In the 1990s, the Internet bubble tried to change everything we knew about investing, focusing on clicks and eyeballs instead of traditional metrics like revenue and profit. Even the great Warren Buffett was questioned for missing out on the Internet boom, preferring to focus on stodgy companies like Coca-Cola, Gillette, and American Express.

In the 2000s, the housing market was all the rage. Miami, New York, wherever -- just buy, buy, buy! It's a real asset; it will never go down (we thought). Banks pushed formerly unheard-of products like ARMs and interest-only loans, and turned around and sold complex structured products and derivatives on such assets to their financial clients.

We all know how those two bubbles ended, and for some reason, I thought this batch of big-name IPOs would be the same.

Signs of maturity
Every once in a while there are signs that give me hope that the stock market is more than just a speculative machine and that there's some sort of fundamental valuation behind it. The performance of the IPOs above helped, but last week the sign came from a "disappointing" IPO by English soccer club Manchester United (NYSE: MANU  ) .

Sports franchises are notoriously popular ways for rich people to show off their wealth, and Manchester United owner Malcolm Glazer certainly loves his sports investments. But sports clubs have a history of poor financial performance and don't generate the kind of profit the market appears to be valuing today. MLB has dealt with the bankruptcy of the Texas Rangers and L.A. Dodgers in recent years, the Pittsburgh Penguins have gone belly-up twice (one of many NHL teams to file for bankruptcy in recent memory), and the NBA often complains of how much money it loses. Still, domestic teams sell for hundreds of millions, if not billions, of dollars.

It would make sense then that the public markets would be dying to get a piece of such a well-known franchise as Manchester United -- or so the Glazers thought. They originally priced the IPO at $16 to $20, which would have put a value of up to $3.3 billion on the club.

Instead of gobbling up shares, investors scoffed at that price and the company went public at $14 with a $2.3 billion market cap. That's still expensive for a company that made $20.4 million from continuing operations last year, but it isn't as insane as what the Glazers originally thought they could get.

Investors seem to be focusing on bottom-line profits these days, a refreshing change from the bubbles of the Internet and housing boom. And it isn't just new IPOs where sanity appears to be winning out.

Rationality in other markets
The price of oil has bobbed around $100 per barrel for over two years now, a remarkably consistent price for a commodity that broke $140 per barrel in the lead-up to the Great Recession. Has the energy market settled down from its volatile run in the 2000s? Prices have spiked and dropped periodically as Libya, Syria, Iran, and even Europe throw challenges the market's way, but overall the commodity has reacted very sanely to economic and political news, and in the long term has been driven more by supply and demand.

The same could be said for natural gas, where supply and demand has driven the price since fracking caused a boom in production. The price has plummeted as fracking expanded, forcing drillers to cut back on natural gas drilling, a very sane reaction to supply and demand changes.

Sanity returns... for now
The market's reaction to IPOs from Facebook, Zynga, Pandora, Groupon, and now Manchester United has me thinking that maybe, just maybe, we've learned some lessons from the boom-and-bust days of hot investments over the past 20 years. Sure, there'll be another bubble, there always is, but for now earnings and growth appear to be driving the market -- just the way it should be.

Just because the market has reacted negatively to IPOs like Facebook doesn't mean these companies are bad, just overvalued. If you want to know when Facebook may actually be worth buying, check out our detailed report on the stock. It comes with a year of free updates on the stock, including our expert's take on earnings each quarter. Find out more here. You can also check out our latest on Zynga.

Fool contributor Travis Hoium does not have a position in any company mentioned. You can follow Travis on Twitter at @FlushDrawFool, check out his personal stock holdings or follow his CAPS picks at TMFFlushDraw.

The Motley Fool owns shares of LinkedIn, Facebook, and Coca-Cola. Motley Fool newsletter services have recommended buying shares of Coca-Cola, Facebook, and LinkedIn, as well as writing a covered strangle position in American Express. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.


Read/Post Comments (22) | Recommend This Article (42)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On August 15, 2012, at 12:50 PM, emferguson wrote:

    It's less of a bubble and lots of us learned, but can anyone look at Linked In's valuation and not see there are still enough people who didn't learn?

  • Report this Comment On August 15, 2012, at 1:14 PM, Risky88 wrote:

    only thing investors care about when it comes to learning is how to make more cash in the next 30 seconds. Not the actual stability of the world or actual real living people.

  • Report this Comment On August 15, 2012, at 5:22 PM, JadedFoolalex wrote:

    Geldej,

    Those people are traders, not Investors!!! Big difference!

  • Report this Comment On August 15, 2012, at 6:34 PM, sailrmac wrote:

    Sorry to burst your bubble :) but US Treasuries show irrational behavior is still alive and strong.

    For example a 10 Year Treasury pays less than even low estimates on the rate of inflation. Gauranteeing yourself a loss of purchasing power is not rational.

  • Report this Comment On August 15, 2012, at 6:52 PM, Anishinabe wrote:

    I have to believe that Motley Fool researchers and writers have alerted millions of people to the dangers of such bubbles. People are listening and learning.

  • Report this Comment On August 15, 2012, at 7:13 PM, TomH3 wrote:

    I agree with sailrmac: there might be a bubble in bonds right now. We usually don't know a bubble for sure until it bursts.

  • Report this Comment On August 15, 2012, at 8:47 PM, TMFFlushDraw wrote:

    Good point about bonds. I wonder what a bursting bond bubble would look like since if you're a long-term holder the downside is only realized when you adjust for inflation, unlike stocks or housing, which provide a much bigger downside.

    Travis

  • Report this Comment On August 15, 2012, at 9:32 PM, optimist911 wrote:

    Nope. The bubbles are just in different sectors now.

  • Report this Comment On August 15, 2012, at 11:25 PM, Risky88 wrote:

    Jaded:

    true that!

  • Report this Comment On August 15, 2012, at 11:49 PM, chris293 wrote:

    We had bubbles two hundred years ago, some were called panics. But now with instand information between cell phones and computers, the I will call panics are happening more often most people are fools and believe what some con

    job specialist sell them.

    Just because some con artists may say they work for the government (even elected), or some major business or college, you have to check their story out or risk losing more than all your money.

  • Report this Comment On August 16, 2012, at 12:49 AM, Rattan1 wrote:

    FB is overvalued....Period.

    Fair price is $2.50

  • Report this Comment On August 16, 2012, at 8:56 AM, gcp3rd wrote:

    I think part of it is that there is a larger chunk of us retail investors that are using the internet to actually learn and understand what it is that we are doing when we buy an "investment". I'm relatively new to buying individual stocks, but I have spent an hour or say most days of the past year now surfing MF, yahoo, seeking alpha, etc, just to try to understand how to value a stock and what the major components of a business are that I should research.

    Also, and I don't know the numbers, but I have read that a lot of retail investors don't have money in stocks right now. Well, those are likely the people less educated and informed about buying stocks in the first place. So, if the MF crew, for example, are the kinds of retail investors that could have jumped into FB with both feet, well, we probably didn't because of all these reasons cited. I certainly was very skeptical - with tech the tide can turn so fast and dramatically. I never owned RIM but holy crap! Go back just 2 years and though you could see the beginning of the end I don't think anyone noticed it and now look.

  • Report this Comment On August 16, 2012, at 11:10 AM, sept2749 wrote:

    IMHO I feel prices are too high for lots of stocks - especially the blue chip dividend stocks. It is my belief that this is the result of both individuals and institutions chasing yield. Eventually, I feel that the prices will correct as the economy improves but we may be looking at 5-10 years as I can't see a quick solution, but then again I'm not a politician.

  • Report this Comment On August 16, 2012, at 11:23 AM, Ostrowsr wrote:

    Well my estimation of the problem is that brokerage houses hyped the stocks in the past, took profits for their rich clients and left the common investor hanging with a 60% to 80% loss. They did not give the money back. That can only happen for so long. Now they will just stick to the buying of options, then stop selling the stock and cash in the options when the price falls, same thing on the way up. We all know who controls the markets with the most shares bought (or not). They had to stop the blatant stealing when it became too obvious. Notice not many of them paid much of a penalty for this.

  • Report this Comment On August 17, 2012, at 11:01 AM, gambo6 wrote:

    Speaking of Bubbles.---- With our debt and it's continual drain on our economy--with no good news in sight --- is Gold a 'Bubble too? It has been sooooo good to me for 5 years or more...

  • Report this Comment On August 17, 2012, at 11:33 AM, flohaugl wrote:

    What about Netflix? Doesn't hitting $300+ and then nose-diving to $60 qualify them as a "bubble" that burst too???

  • Report this Comment On August 17, 2012, at 11:45 AM, Pshh46 wrote:

    We are already in the next bubble: government bonds. Do you really think that the US gov't can repay ~$17 trillion, then pay SS, medicare/aid, etc.? That's over ~$100 trillion. It's either bankruptcy or destroy the currency. We're on track to do the latter so far.

  • Report this Comment On August 17, 2012, at 2:23 PM, Spw225 wrote:

    No. It's human nature. There will always be greedy people, humans are emotional, people will ignore risk and politicians will promise free things for political gain. The best people can do is to educate themselves financially, use caution and due diligence, and despite the bubbles, always seek and vote for freedom over our financial choices.

  • Report this Comment On August 20, 2012, at 9:16 AM, WineHouse wrote:

    Indeed bonds are in a bubble now. I hold bonds that I purchased some years ago when they were issued (at par for the most part); based on current market prices for those bonds, some of those yields are very slightly above zero and SOME are actually slightly below zero. And no, I'm not talking about TIPS (which I also bought when issued at par some years ago). Who in their right mind would buy a bond on the secondary market for a price that results in a negative yield to maturity???

  • Report this Comment On August 20, 2012, at 9:23 AM, WineHouse wrote:

    Until and unless the Treasury starts issuing more long-term bonds at current low rates (instead of all those short term and ultra-short-term issues), the US is setting itself up for really deep-doo-doo problems down the line when those bonds need to be redeemed and new bonds issued to cover the redemption costs. At some point -- maybe next year, maybe five years down the line, but definitely at some point -- the artificially-contained inflationary surge will take place and the cost of new borrowing will become very high. The only way the Treasury can "save" itself is by locking in the current, artificially-low rates for long terms.

    At least the current administration had the good sense to resume issuing 30-year bonds! As some of you may recall, GWB's administration actually ceased issuing the longer-term bonds and ONLY issued either short or very short term bonds for several years (a manipulative ploy to make our debt look more manageable "on paper").

    But we are still issuing too many short and ultra-short term bonds. We're going to get caught in an interest rate squeeze and as a nation we will be on the wrong side of that squeeze.

    Of course, the banks are loving it right now ---

  • Report this Comment On August 20, 2012, at 1:52 PM, Darwood11 wrote:

    I have a very narrow definition of bubbles. Very simply, if anyone and everyone can make money in a specific investment over an relatively short period of time, that is a bubble. "Bubble stocks" may include those high valuations and questionable substance to back it.

    This has served me adequately, be it for specific stocks, real estate, whatever.

    The thing none of us knows is precisely when will a bubble "burst." That's true for today's bond market.

    BTW, the magnitude of return is not the issue. It's a question of inflows and the expectations of the providers of those inflows.

    Bubbles burst when the lemmings turn. By lemmings I mean those with unreasonable expectations as well as the followers of the herd.

    If I knew when a bubble would burst, I'd be fabulously rich. I'd ride the current fad to the crest and then jump. But I don't and because I don't, I invest for the long term and tend to hold more cash and avoid investment fads. If a stock seems to approach "bubble" territory by my definition, I bail and sell at least an amount equal to my initial stake. Everything else is using someone else's money. For example, that's what I did with Netflix.

    Is that approach working? Well, if a yield north of 10% a year is "working" with a large cash stake in the current environment, then I guess my approach is doing OK.

    I'd also say I've learned something about bubbles in the last decade.

  • Report this Comment On August 21, 2012, at 3:41 PM, hbofbyu wrote:

    Have we learned and will it be different? No way. Because no matter what is out there most people don't have all the facts and therefore trust the crowd more than their own logic - especially in panic situations.

    (Think of a sinking boat or a fire in a crowded theater - everyone will be doing the same thing).

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