What are the signs of a bubble about to burst, such as the housing market in San Francisco or tech bubble?

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Question: 

What are the signs of a bubble about to burst, such as the housing market in San Francisco or tech bubble?

Answer: 

It’s logically impossible to predict the bursting of a bubble. If it were possible, everyone would sell before the bubble burst. The selling would cause the bubble to burst earlier. But then people would anticipate the earlier bursting and sell earlier. And so on. Finally we would reach the beginning of the bubble, where our logic implies that no-one would buy: there would be no bubble.

So for bubbles to exist, their end must be unpredictable.

On the other hand, we may be able to identify when a bubble is underway. For instance, the 1929 and 1987 stock market crashes were preceded by months or years of good economic news which drew many novice traders into the market. These novice traders were unaware of the risks - they thought stocks could only go up. Some economists believe that their naive beliefs fueled demand for stocks, thus helping to create a bubble. Stock investments were also highly leveraged before each crash (particularly in 1929). So if you observe the mass entry of naive investors and/or historically high levels of investor borrowing in order to invest, a bubble may be underway.

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Last updated on April 29, 2016