“The greater fool theory states that the price of an object is determined not by its intrinsic value, but rather by irrational beliefs and expectations of market participants. As long as there is a greater fool around the corner willing to pay a higher price, the value will continue to rise,” — Ashwin Sanghi
The “greater fool theory” refers to the principle that one can make money by investing into overvalued assets and selling them for a profit later, because there will always be someone else, “the greater fool”, who will come along and pay a higher price for the assets.
Billionaire Microsoft co-founder and investor Bill Gates has dismissed investments in cryptocurrencies, such as Bitcoin, and non-fungible tokens (NTFS). He opined that the digital assets market is largely driven by rampant speculation, greed and the greater fool theory.
Gates stated that the phenomenon of cryptocurrencies and non-fungible tokens as something that’s “100% based on greater fool theory,” since there will always be other speculators willing to pay more for assets.
Gates said he doesn’t own any crypto because he prefers investing in assets with determinable intrinsic value (value that is justified by facts) or “things that have valuable output.”
Thus without having a determinable intrinsic value, — a value that is justified by “facts”; such as assets, liabilities, earnings, dividends and other definite values — investing in cryptocurrency and NTFs is purely speculative by investors.
In the past, intrinsic value was equated to a company’s “book value”. Subsequently, a new concept was developed; the intrinsic value was determined by the earning power or the present value of the discounted future cash flow of a company.
Regarding intrinsic value: “To use a homely simile, it is quite possible to decide by inspection that a woman is old enough to vote without knowing her age or that a man is heavier than he should be without knowing his exact weight..” — Security Analysis by Benjamin Graham, David Dodd, Warren Buffet.
According to Corporate Finance Institute, the best way to avoid being a “Greater Fool” is to:
- Do not blindly follow the herd, paying higher and higher prices for something without any good reason.
- Do your research and follow a plan.
- Adopt a long-term strategy for investments to avoid bubbles.
- Diversify your portfolio.
- Control your emotion of greed and resist the temptation to try to make big money within a short period of time.
- Understand that there is no sure thing in the market, not even continual price inflation.
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