page_title: Economic bubble
section_title: Identifying asset bubbles
hierarchical_section_title: Economic bubble / Identifying asset bubbles
caption_attribution_description: English: SP 500 PE Ratio since 1871 based on data from website of economist Robert Shiller
context_page_description: An economic bubble or asset bubble is a situation in which asset prices appear to be based on implausible or inconsistent views about the future. It could also be described as trade in an asset at a price or price range that strongly exceeds the asset's intrinsic value.
  While some economists deny that bubbles occur, the causes of bubbles remain disputed by those who are convinced that asset prices often deviate strongly from intrinsic values.
  Many explanations have been suggested, and research has recently shown that bubbles may appear even without uncertainty, speculation, or bounded rationality, in which case they can be called non-speculative bubbles or sunspot equilibria. In such cases, the bubbles may be argued to be rational, where investors at every point are fully compensated for the possibility that the bubble might collapse by higher returns. These approaches require that the timing of the bubble collapse can only be forecast probabilistically and the bubble process is often modelled using a Markov switching model. Similar explanations suggest that bubbles might ultimately be caused by processes of price coordination.
context_section_description: Economic or asset price bubbles are often characterized by one or more of the following:
  Unusual changes in single measures, or relationships among measures (e.g., ratios) relative to their historical levels.  For example, in the housing bubble of the 2000s, the housing prices were unusually high relative to income. For stocks, the price to earnings ratio provides a measure of stock prices relative to corporate earnings; higher readings indicate investors are paying more for each dollar of earnings.
  Elevated usage of debt (leverage) to purchase assets, such as purchasing stocks on margin or homes with a lower down payment.
  Higher risk lending and borrowing behavior, such as originating loans to borrowers with lower credit quality scores (e.g., subprime borrowers), combined with adjustable rate mortgages and "interest only" loans.
  Rationalizing borrowing, lending and purchase decisions based on expected future price increases rather than the ability of the borrower to repay.
  Rationalizing asset prices by increasingly weaker arguments, such as "this time it's different" or "housing prices only go up."
  A high presence of marketing or media coverage related to the asset.
  Incentives that place the consequences of bad behavior by one economic actor upon another, such as the origination of mortgages to those with limited ability to repay because the mortgage could be sold or securitized, moving the consequences from the originator to the investor.
  International trade (current account) imbalances, resulting in an excess of savings over investments, increasing the volatility of capital flow among countries. For example, the flow of savings from Asia to the U.S. was one of the drivers of the 2000s housing bubble.
  A lower interest rate environment, which encourages lending and borrowing.
caption: CAPE based on data from economist Robert Shiller's website, as of 8/4/2015. The 26.45 measure was 93rd percentile, meaning 93% of the time investors paid less for stocks overall relative to earnings.
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