"If you want to stir up some frothy drama, ask an economist about bubbles. (SOUNDBITE OF ARCHIVED NPR CONTENT) EUGENE FAMA: The word bubble drives me nuts, frankly. GUO: That's Nobel Prize winner Eugene Fama talking to us on the Planet Money podcast back in 2013, when he issued a famous challenge to his fellow economists. Try and predict the next financial bubble."
"Robin is a professor at Harvard Business School. He says a bubble is essentially when the market gets carried away, gets over excited about something. But a lot of times, the market gets excited for good reason. That's what he and his colleagues discovered when they went digging into the history of the U.S. stock market. GREENWOOD: So we wanted to look at every situation that was maybe a bubble and to say, what happens next?"
"They found that about half the time, what seemed like a bubble wasn't. For instance, in the late '70s, the price of health care stocks more than doubled in the span of two years. But that wasn't a bubble. Instead of popping, those stocks just kept going up and up. The same story goes for aircraft stocks in the '50s and entertainment stocks in the '60s."
Historical analysis of U.S. stock-market episodes shows that roughly half of episodes that looked like bubbles continued to rise rather than pop. Examples include late-1970s health care stocks, aircraft stocks in the 1950s, and entertainment stocks in the 1960s. Statistically linked indicators of popping bubbles include significant overvaluation near peaks and other measurable market behaviors. Analysts examine outcomes over the subsequent 24 months to judge whether exuberance represents sustainable growth or an unsustainable bubble. Detecting overvaluation and related signals can help assess the risk that a sector's rapid price increase will reverse sharply.
Read at www.npr.org
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