So ride your bubble of choice up--stocks,
bonds, housing, bat guano, take your pick--but it's best to keep your thumb on
the sell button.
One person's bubble is another person's "fair
market value." What is clearly an outrageously overvalued asset perched
at nosebleed levels of central-bank fueled speculative euphoria is to the owner
an asset at "fair market value."
But beneath the euphoric confidence that
valuations can only drift higher forever and ever is the latent fear that
something could stick a pin in "my bubble"--
that is, whatever bubblicious asset we happen to own and treasure as a source
of our financial wealth could be popped, destroying not just our financial
bubble but our psychological bubble of faith in permanent manias.
Consider housing prices, which are clearly in
an echo-bubble of the Great Housing Bubble of 2000-2007. (Chart
courtesy of Market Daily Briefing.)
The psychological underpinning of all bubbles
and echo bubbles is on display here. In the first bubble,
those benefiting from the stupendous price increases are not just euphoric at
the surge in unearned wealth--they believe the hype with all their hearts and
minds that the bubble is not a bubble at all, it's all just "fair market
value" at work.
In other words, the massive increase in
unearned personal wealth is not just temporary good fortune--it is permanent,
rational and deserved.
Alas, all bubbles, no matter how euphoric or
long-lasting, eventually pop. All the certainties
that seemed so obviously true and timeless to the believers melt into air, and
their touching faith that the bubble valuations were permanent, rational and
deserved dissipates in a wrenchingly painful reconciliation with reality.
The agonized cries of those watching their
bubble-wealth vanish do not fall on deaf ears. The
same central bankers that inflated the bubble with super-low interest rates suddenly
see their much-loved wealth effect (i.e.
the bubble-generated psychological sense of wealth that emboldens people to
borrow and spend money they shouldn't borrow and spend) imploding before their
eyes.
In the panicky haste of blind expediency, central
bankers drop interest rates to zero and unleash unlimited liquidity to save the
bubbles they inflated. Instead of flushing the system of
bad debt and speculative leverage and allowing the market to reprice impaired
assets, central bankers push the perverse incentives that inflated the bubble
to new highs.
Should lowering interest rates to zero fail to reflate the
bubble, central bankers then start buying assets hand over fist, creating
trillions of dollars, yuan, yen and euros out of thin air to boost asset prices
with direct and indirect purchases.
The relief of those saved from financial
destruction by the heroic efforts of central bankers is palpable. Rather
than retrace to pre-bubble levels, valuations are caught in mid-air and pushed
higher by central bank liquidity and asset purchases.
But the naive faith of asset owners cannot be
restored to its pre-bubble virginal state. The nagging
realization that all bubbles are temporary and irrational, and that bubblicious
wealth is unearned and undeserved, lingers in the traumatized psyches of the
former true believers.
Sensing their vulnerability, every asset owner
demands: don't pop my bubble!Go pop somebody else's
bubble, but please please please leave mine intact.
This knowledge that all bubbles pop sooner or
later generates a skittishness that finds voice in sell-offs. Once
the skittish owners of a bubblicious asset sense the nail is pushing against
the bubble and the inevitable popping is nigh, they sell sell sell.
No wonder the stock market has sold off hard
three times in the past 18 months. Every punter who's not
a sucker knows that 1) stocks are overvalued, 2) every bubble eventually pops,
and 3) the survivors are those who sell at the first whiff of trouble.
So ride your bubble of choice up--stocks,
bonds, housing, bat guano, take your pick--but it's best to keep your thumb on
the sell button and your mind attuned to the many needles and nails
pressing against the thin membrane of the bubble.
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