Why every bubble looks the same
Bubbles differ in their object and resemble each other in how they unfold. Five phases have repeated for centuries, and the traits are recognizable during the event, even if not provable.
There's always something real at the start: a new technology, a new trade route, a lowered interest rate. Bubbles don't come from nowhere, they come from a genuine, traceable change.
Then comes the boom, where early buyers profit. In the euphoria phase, people who otherwise show no interest in the subject join in, and financing increasingly shifts to credit.
At some point the early ones start selling. Prices stagnate while the narrative keeps running. And then comes the reversal, usually with no identifiable trigger, often set off by forced selling.
Recurring traits: new metrics, because the old ones no longer fit. The phrase that this time is different. People with no prior knowledge, all joining in. And credit as the stake. See three of these at once, and while you won't know when it ends, you'll know what you're looking at.
Hyman Minsky's phase model describes displacement, boom, euphoria, profit-taking, and panic. The central mechanism is increasing debt financing, with the financing structure evolving from viable to speculative to a structure where servicing the interest alone requires new loans.
Charles Kindleberger applied this model to historical episodes and documented the sequence's repeatability across centuries. Notable is the stability of the pattern across very different objects, which points to shared causes in financing structure and behavioral patterns rather than properties of the specific good involved.
The practical difficulty remains distinguishing it in real time. High valuations can be justified by low interest rates or genuine growth, and bubbles can persist for a very long time. More reliable than valuation levels are metrics of financing structure, such as the volume of leveraged positions relative to market capitalization, since the reversal follows mechanically from that structure.
Summary
- Every bubble starts with something real.
- The reversal follows mechanically from debt financing, not from sentiment.
- Recognizing one is possible; predicting the timing isn't.
Did you get it?
Which five phases does the model describe?
Displacement, boom, euphoria, profit-taking, and panic.
What's the mechanical core of the reversal?
Leveraged positions force sales as prices fall, which triggers further declines.
Which metric is more informative than the valuation level?
The volume of leveraged positions relative to market capitalization.
Sources and further reading
- Hyman Minsky on the financial instability hypothesis, and Charles Kindleberger on the history of financial crises.
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