Taming High Growth: Protecting Yourself as an Investor
In the 1989 Berkshire Hathaway shareholder letter, Warren Buffett wrote:
“In a finite world, high growth rates must self-destruct.”
Berkshire Hathaway’s consistent and continued growth into the 1990s captured the awe of investors everywhere.
Buffett, however, annually warned shareholders that this trend could not last forever. He was certain that sooner or later Berkshire Hathaway would suffer declining growth and thought it prudent to temper expectations.
Similar stories have played out in the crypto space.
The Verge Token gained a whopping 1.5 million percent at its peak in 2017 but later succumbed to exploits that ended the project. The takeaway is that when tokens or projects have endured substantial gains in quick succession, there is a limit to how high they can go.
If projects in your portfolio show signs of unsustainable growth, it may be time to reassess your holdings. Here are 4 ways to determine if an asset’s price might be hitting a peak.
Evaluate Fundamentals
When evaluating an investment opportunity, it is essential to assess the underlying fundamentals of the business or asset. Look beyond the surface-level growth numbers and delve into the sustainability of the growth trajectory.
In the case of cryptocurrencies, this means looking at the underlying technology, use cases, adoption rates and community sentiment.
If the growth rate is not supported by these fundamentals, it’s a warning sign that the asset is overvalued.
Monitor Valuations
Always remember: PRICE is what you pay. VALUE is what you get.
High growth assets with excessive valuations can become a risk in themselves. Keep a close eye on the valuation metrics of the investments you hold or consider adding to your portfolio.
If valuations appear stretched or disconnected from the underlying fundamentals, it might be an indication that growth rates are unsustainably high.
Maintaining a disciplined approach to valuation can help protect you from potential downside risks.
Manage Risk
To shield yourself from the potential fallout of unsustainable growth, it is crucial to incorporate risk management strategies into your investment approach.
Diversification is one effective way to mitigate risk. Allocate your investments across different sectors, asset classes, and geographies to reduce exposure to any single high-growth investment. Spreading capital across digital assets can reduce your exposure and minimize the risk of losses.
Additionally, setting appropriate stop-loss orders, implementing trailing stops, or using options strategies can help limit losses if a high-growth investment.
Look for the Bubbles
When a particular asset or market experiences rapid growth, it can often be a sign of a bubble.
Asset bubbles occur when prices become disconnected from the underlying value of the asset, and investors are solely driven by the fear of missing out (FOMO).
To protect yourself, it’s important to be cautious and not get swept up in the hype.
Warren Buffett’s quote, “In a finite world, high growth rates must self-destruct,” sheds light on the unsustainable nature of relentless growth. As an investor, it is crucial to identify when growth rates are reaching unsustainable levels and take steps to protect your investments.
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