Excessive speculation has repeatedly been the downfall of investors and markets. As Warren Buffett points out, it often starts innocently enough when early investors discover a previously overlooked opportunity. Initially driven by sound fundamentals, the opportunity begins to spread. But as more people get involved, it loses its connection to reality and turns into pure speculation, inevitably leading to a bad outcome.
At the 2006 Berkshire Hathaway Annual Meeting, Buffett illustrated this with a timeless observation: “What the wise man does in the beginning, the fool does in the end.” He explained that when any asset class experiences a significant rise, initially due to fundamentals, it eventually attracts speculative interest. Over time, this speculation can overshadow the fundamentals. He referenced the famous example of tulip bulbs, noting that while they may have initially been valued for their beauty, it was the speculative frenzy that drove prices to absurd levels. As people saw others profiting effortlessly, envy and greed took over, leading to inevitable disaster.
Hear Buffett’s full explanation
See the complete Lessons From Warren Buffett series
© 2024 David Mazor
Disclosure: David Mazor is a freelance writer focusing on Berkshire Hathaway. The author is long in Berkshire Hathaway, and this article is not a recommendation on whether to buy or sell the stock. The information contained in this article should not be construed as personalized or individualized investment advice. Past performance is no guarantee of future results.