If you were part of Ty's Beanie Baby craze of the late '90s, you may remember spending a lot of time (and money) collecting the cute beanbag animals. You probably kept track of the names (and maybe even birthdays) and waited eagerly for new Beanies to come out. You may have kept a list of the "retired" Beanie Babies and even kept your rarest Beanies in special plastic boxes, so that the tags would remain pristine and firmly attached.

What you may not realize is what the Beanie Baby craze has taught you about the basics of trading and finance.

Buying Stock
As their popularity grew, TY started retiring their Beanie Babies. Once retired, you couldn't purchase them in any old toy store. You had to go to a collector, a store that specialized in the Beanie toys or find a private seller. And you always had to pay more. Kids (and kids at heart) clamored to buy the most elusive retirees and snapped up Beanies that they suspected would be retired soon.

Beanie traders, like stock traders, looked for assets that they believed would appreciate in value. Investors look for stocks they believe will go up in price but, and this is the crucial point, that haven't hit their top value yet. If you bought a Beanie Baby you thought would be retired soon, you invested capital because, based on the data you had collected, you believed that asset's market value would appreciate. That's exactly what a stock trader does. Don't you feel smart now? (Think owning a stock gives you special privileges with the company? Think again. Find out What Owning A Stock Actually Means.)

Options Trading
Let's say your friend is offering to sell one of his Beanie Babies for $15, but you aren't sure if you want to buy it. Suppose you offer him $1 for the option to buy that Beanie at that price for the next two months. After almost two months has passed, the market price of the Beanie will either go up, go down or stay the same. If the price has dropped to, say, $10, you wouldn't want to pay the original price of $15 for it, so you wouldn't exercise the option. You would lose the $1 it cost to buy the option.

If the price has stayed the same, it may be an indication that the price won't be going up as you expected, or you may not have waited long enough to see a change. You would have to reevaluate the data and decide whether you want to exercise the option to buy the Beanie at $15.

If the market price has gone up, and now that same Beanie is selling for $20, you could exercise your option and buy the Beanie for $15 (plus the $1 you paid for the option). If you resold right away, you would make a $4 profit on the sale.

On the flip side, if you were the one selling the Beanie, when the option is not exercised, you pocket the cost of the option (in this case $1). If the option is exercised, you have lost out on the additional $5, but you have the security of knowing someone will either buy your Beanie or provide you with the cost of the option as profit. That's the basic premise of options trading! (For more insight, see the Options Basics Tutorial.)

Market Crashes
In 1999, Ty announced that it would no longer be producing Beanie Babies and that all of the Beanies were now retired. There was a flurry of activity as collectors looked to either add newly retired Beanies to their collection, thinking their value could only go up, or sought to unload the collections they had, believing that demand for the toys would dry up. As demand eventually dwindled for all but the most devoted collectors (who weren't in it for the money), suddenly the coveted Beanie you had kept in perfect condition was worth less than even basic off-the-shelf Beanies had been.

What this tells us about finance is that the market has a major effect on an asset's value. Demand for a stock can drive the price up, regardless of the company's intrinsic value. Simarly, if investors' opinions on a stock sour and they sell it, the price is likely to drop. This overvaluation in a market was given a name by former Federal Reserve Chairman Alan Greenspan: irrational exuberance.

The Bottom Line
The lesson here is that the market suffers ups and downs, and no one can predict the value of an asset in the future. Luckily, those who were left holding a large collection of Beanie Babies when the craze ended had a lot of soft huggable toys to show for it. Not many Wall Street investors can say that!

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