top of page
This site was designed with the
.com
website builder. Create your website today.Start Now

"Bubbles are rarer than you think"


According to an article by The Economist, a financial bubble is almost impossible to predict. It talks about the difficulties economists have correctly projecting recessions and economic booms. They define a bubble as occurring when the value of a market doubles, and then has a 50% reduction in value within the same period. As an economics student who is very interested in investing, I find this article to be very informative for beginner investors. Insight about when to ignore market trends, and when to hold stocks is very helpful. If you can get a better idea of when increases and decreases in markets will occur and when bubbles might arise, you can make a lot of money.

The crash of the housing market caused the 2009 Recession, and that is something that is relevant to everyone. A select few investors saw it coming, and they made millions of dollars while the big banks went bankrupt. The chance of a market doubling within a year was very rare, happening only 2% of the time (72 cases), but the chance of it doubling and then being reduced to 50% of its value was almost impractical. Of the 72 cases, six markets doubled again the next year, and only three cases resulted in a bubble. It is two times more likely for a market to double two consecutive years, then it is for it to fall into a financial bubble. A sharp increase in the market is usually more of a signal for investors to buy rather than sell. This is what makes bubbles so hard to predict, and why they cause such a harsh impact on the economy and big investors.

Goetzmann developed a chart of market timing measure, which showed that the greatest return on investments happened when the market was the cheapest. However, I found that this information is only valuable in hindsight because there is no way of knowing when a market is the cheapest in present time. They concluded that, even if investors would have followed the same pattern of market timing that was available to them at the time, they would have performed very well for the first half of the sample, but then under performed for the last half of the sample. Market timing is never the same because the economy is constantly changing and unpredictable. In conclusion a double in market value or an overall high market value are sufficient signals for investors to sell.

bottom of page