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Description of Bubbles and How to Survive Them

We now live in an "asset-backed economy". Our spending decisions are dependent on asset values like house and share prices. In turn these are inextricably linked to burgeoning debt. But asset prices are now subject to fiercely volatile boom and bust cycles, which threaten serious recession, thus putting more downward pressure on prices and more damage to the financial system, leading to the danger of deflation. Since 1991 Japanese land prices have fallen 90 per cent. In a readable, non-technical guide the author explores the implications (e.g. bad for real assets, possibly good for some financial assets) and the solutions for individuals, companies and central banks now that asset prices dominate the economic system. Underlying all of this is the question of where asset prices should be, for example what is the "right" price earnings ratio for stocks or house prices? This is a highly controversial area but the author argues, if there are not exact levels, there are ranges or averages for these assets in which individuals can invest accordingly.

Title Information

ISBN:

9781857883480

Pages:

238 pages

Format:

Hardback

Product Code:

19723

Publisher:

Nicholas Brealey Publishing

Published:

07/10/2004

Edition:

New title Edition

Reviews

• Bubbles in stock and house prices have become central the world economy over the last 20 years, and could pose more of a threat to financial and economic stability than consumer price inflation. In this readable, non-technical guide, Calverley explores why bubbles occur, what causes their eventual bust, what damage bubbles can do and how they can be prevented. He shows us how investors can lose track of reality, by exploring the psychology of investor behaviour, and how even a small event can trigger a market crash. This book is controversial, however, in that it argues that we can identify bubbles as they emerge, based on factors such as market valuation, and that limiters can be put in place to prevent them from growing. The first section of Bubbles and How to Survive Them explores several historic bubbles, such as the 1920s stock market bubble, and Japan’s bubble of 1980. Calverley shows us the different stages of a bubble’s growth, from displacement, where the asset or stock arrives on the scene and the interest begins to grow, to the euphoria or mania, where the expectation of the performance of the asset or stock gets out of control. The revulsion stage finds prices falling, investors becoming distressed – and then the panic sets in. Calverley deals with both consumer and corporate factors in the formation of bubbles; the rapidly rising value of an individual’s assets enables individuals to feel as though they can reach their target wealth sooner than expected, through increased mortgages, leading to overspending and then debt when the bubble collapses. The corporate aspect deals with stock bubbles, and the expansion of business in line with the Tobin’s Q ratio. The similarity between the bubble of the 1920s in the US and the dotcom bubble of the late 1990s is also discussed in this section. They were both periods of economic booms, combined with a growing bubble in the stock market, with no sign of general inflation. There was also excitement about new technologies: electric power, telephones and cars in the 1920s, and the rapid growth of the internet in the 1990s. The only difference between the two eras is the growth of the housing market: the rise was much greater in the house prices of the 1920s. Housing is where the next bubble will be, according to Calverley, with house prices having risen by 146% in the UK between 1995 and 2003. He studies the factors that are driving house prices further up, and highlights the key point in the formation of asset bubbles, namely the expectation of future price appreciation. This expectation is particularly relevant for homeowners, and people who regard property as their primary investment. Also explored is the dilemma of whether to prick a bubble, as this would do little to diminish the aftermath, and just bring a potential crisis forward. The crucial and possibly controversial point of this whole book is whether a bubble, either asset or stock, can be identified. There is a checklist from which to tick off various identifiers, but is it as simple as this? For those who believe that all investors are rational and behave accordingly, there can be no such thing as a bubble, as this would imply the irrationality of those involved in the market. Calverley suggests that it is possible to identify them before they burst, and even sufficiently early to prevent them from over-inflating. The various prevention methods are outlined, including the sensible valuation of markets, and the possible action governments could take, such as using taxation as a way to discourage the growth of asset bubbles. There are also strategies for investors to follow, the key one being to keep a realistic view of the likely returns you can make – easy to say, possibly harder to do in practice! In Bubbles and How to Survive Them, John Calverley provides an all-round guide to the way bubbles occur, the signs to look for, and how to cope with them. Through the use of case studies, we see how the theory fits the reality, and how the cycles can happen again and again, despite being able to see the warning signs. Not everyone will agree with the conclusions in this book, but with the boom in UK property prices, it provides a timely warning – one that shouldn’t be ignored.
  Pa Watkins
  Wm Robb Ltd

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About John Calverley

John Calverley is the Chief Economist and Strategist at American Express Bank and edits its publication Economics for Investment. He is a well known commentator and appears frequently on CNN, CNBC, BBC and other TV stations as well as having his own column in Singapore Smart Investor monthly. He is Deputy Chairman of The Society of Business Economists. His previous books include The Pocket Guide to Economics for the Global Investor and The Investors Guide to Economic Fundamentals (Wiley 2003).

Contents of Bubbles and How to Survive Them

Part I: Bubble and Bust

1. An Anatomy of Bubbles
2. The Great Depression
3. Japan and the Specter of Deflation
4. The Greenspan Bubble and Reflation

Part II: Housing: The Next Crash?

5. The Worldwide Boom
6. Britain Nears the Top
7. A US Bubble
8. Household Debt and Monetary Policy

Part III: Origins and Solutions

9. The Pathology of Bubbles
10. Valuing Markets Sensibly
11. New Policy Approaches
12. Strategies for Investors

Final Thoughts: Living with Bubbles