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Wealth can't be spent, only sold
Why bubbles pop
A bubble is not a question of whether a stock pays off in the long run. In bubbles even the most successful companies go down 80 percent or so. Wealth can be made up: a $50 million offering at a billion-dollar valuation makes someone a billionaire on paper. Only money spends, and wealth has to be sold to get it.
The need for money often comes from having borrowed to buy the wealth. If interest rates then rise, the debt has to be paid, and the wealth gets sold. Add the fact that it is all the rage and everyone buys more than they should without diversifying, and the ingredients are in place.
Technology and timing
Bubbles often arrive with great new technology and a real reason to be exuberant. Believing a technology will be revolutionary doesn't make a particular stock great, since competitors come in: there was a Google and there was a Yahoo.
A bubble gauge can say that returns over the next years will be poor, though it can't give timing. Timing comes from what pricks the bubble, which is usually the need to turn wealth into cash. Tightening monetary policy is the most typical trigger, and a wealth tax could be another, because holders would have to sell to pay it.
Why do borrowed bubbles pop harder?
When buyers fund purchases with borrowed money, a falling price can trigger lenders to demand repayment. That forces owners to sell, which pushes prices lower and triggers more demands. Margin loans financed much of the stock boom of the 1920s, and the forced selling of 1929 followed the same pattern.
How far did the dot-com bubble fall?
The Nasdaq Composite peaked in March 2000 and fell about 78 percent by October 2002. Many internet companies that were once valued in the billions disappeared entirely. The technology itself went on to change daily life, which is why the era is often cited when people ask how a bubble can grow around something real.
Why don't revolutionary technologies make every company a winner?
In the early 1900s hundreds of American companies built automobiles, and the vast majority eventually closed or were absorbed. A few survived and grew into the industry's giants. Rapid entry by competitors tends to compete away the profits of a new technology, even while the technology itself spreads widely.
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