Unraveling the Narrative: Understanding the Anatomy of Bubbles
Paragraph 1
Often the opportunity for a bubble arrives on the back of a new technology. And some technologies make for fantastic stories. Bubbles form whenever a new story is not only told but can also be sold. However, not every new story leads to a bubble. Sometimes stories can be told, but not sold. When insulin was first isolated and announced as a treatment for diabetes, the story was covered by newspapers around the world. Children in diabetic coma, only days from death, were ‘resurrected’ by insulin. Soon, they resumed their normal lives, and insulin was hailed as the ‘resurrection’ cure. This story has an incredible arc: the evil disease is conquered by modern medicine raising children from the dead. Investors might have loved to place a bet on the first miracle of modern medicine, but it was not to be. Eli Lilly and Company, the firm that contracted with the Canadian discoverers of insulin to isolate and distribute the hormone at scale, was privately held. There was no mechanism for investors to speculate in insulin. So, there was no bubble.
Paragraph 2
This highlights two important necessary conditions for the formation of a bubble: first, bubbles need narratives. Every startup begins as a story about an imagined future. Every venture, every investment, is a statement about the future, an attempt to create a future that conforms to the imagined vision of the promoter. Teams are formed, resources acquired, alliances entered, products and services developed, all in furtherance of that story and that future. Every startup story will have some common elements – a protagonist (not necessarily a technology), a plotline in which the protagonist struggles against a challenge from dark forces (incumbents or the current way of doing things), and a happy ending where the sun shines and human progress is advanced. These stories provide the mental scaffolding for individuals and institutions to invest in new ventures. Good stories sell, and the more uncertain the outcome, the more leeway for entrepreneurs to fabulate. The 800 essays submitted to Radio Broadcast tell us something about how many different radio stories could be told and sold. But insulin had only one story; all that insulin could do was resurrect the dying.
Paragraph 3
Second, investors must have access to an investment that is closely linked to the object of speculation. The existence of a pure play investment opportunity (i.e., investment opportunity in companies that focus on a single type of product or service) tells us that at least one entrepreneur was able to concoct a story in which their venture is the hero. While this might seem like a trivial requirement, many important innovations didn’t lead to a bubble for the simple reason that investors could not invest in it. Innovations as disparate as Bakelite, hovercraft and drilling for oil were all candidates for speculation where no pure play investment was available. As investors, we can only invest in a subset of opportunities for which pure play narratives can be constructed.
Paragraph 4
If bubbles reflect the difference between fiction and reality, investors need tools that map this distance. The story cannot be too fantastic: nobody yet is investing in the promise of teleportation machines. But more fantastic visions will lead to more radically imagined futures, ones that displace more of our current economic value chain and, hence, will be more valuable.
