• Investors are less cautious – new rules and standards are being set
• First only a few investors get out, then the mood changes completely
In order to understand how a bubble develops on the stock market, it is advisable, as HZ reports, to take a look at Hyman P. Minsky’s work “Stabilizing an Unstable Economy”. The economic portal shows the five phases of a speculative bubble, which the US economist, who only became better known after his death, describes in his book published in 1986.
1. Shift
In the first phase, the shift phase, investors discover a new thesis and thus a new basis for a recovery – such as a new technology or an innovative product like the early 2000s digitalization as the basis for the dot-com bubble. Nowadays, according to HZ, one could call the zero interest rate environment, due to which people see few alternatives to investing in shares.
2. boom
The shift is then followed by a price increase in the corresponding investments – slowly at first, but the more investors follow the trend, the sooner a real boom develops. The new trend is also increasingly picked up in the media during the boom phase and there are initial speculative purchases. The “Fear of Missing Out (FOMO)”, i.e. the fear of missing out on something, then allows more investors to get involved.
3. Euphoria
In the third phase, euphoria, investors become less cautious, prices rise steeper and the “Greater Fool” theory is an important factor. In this case, this means that investors buy the corresponding ones Assets that are booming right now, not because of their value, but because they think someone else is willing to pay more for them.
Another feature of the euphoria phase is “that the supporters of the boom announce or set new rules and standards,” as HZ describes it. In the dot-com bubble, for example, there was talk of a so-called “New Economy”. Old criteria such as earnings and returns, which were previously used to assess a company’s value, were no longer considered valid.
4. Profit Taking
In the fourth phase of a speculative bubble, the first professional investors are already getting out again to collect their profits, while a large number of new small investors are entering the market. Although the old highs are short-lived or absent, the drop is not immediate as sellers who fold to take profits continue to find takers.
5. Panic
Only in the last phase, the panic, does the mood change, which can happen very suddenly. The courses then often fall as steeply as they shot up in the euphoria phase or even steeper down. The whole thing looks like a self-accelerating catastrophe: “Stock speculators with Libor loans are confronted with ‘margin calls’. Or the value of more and more properties falls below the loan-to-value ratio, so that mortgage banks are now demanding additional payments, which more and more homeowners forcing people to sell, which in turn drives prices down … On the other hand, demand has also collapsed, so there is suddenly a lack of buyers,” explains HZ.
Editorial office finanzen.net
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