Oddly there's little agreement amongst the experts about why markets crash. Although given that experts in fields without objective measures of success are generally less accurate than a drunk in a ship's urinal during a storm that's not really surprising. Still, if the best that the world of investment has to offer doesn't know when stuff's overvalued then how can we possibly hope for an end to boom and bust? There's no getting away from the reality that the inability of analysts to know whether markets are overvalued or not leads to serious problems. Pundits, who have a record of prediction that makes amateur astrologers look like geniuses, are delighted to proclaim the inadequacies of regulators and analysts but, frankly, have nothing better to offer. Sadly, history doesn't offer much in the way of solace: it's only hindsight that gives us superior knowledge.

Irving Fisher's Great Error

The market bust exemplar that's scored into folk memory is the crash of '29. History, written in retrospect, records how the over-valued nature of the market made the collapse inevitable. Indeed Irving Fisher, who stated that "stock prices have reached what looks like a permanently high plateau" with the uncanny precision of the general whose last words were "don't be stupid, they'll never hit me from over th …" is largely remembered for that most infelicitous of predictions. Yet Fisher is one of the greatest economists of the twentieth century and a pioneer of behavioural finance. Fisher largely lost his reputation as a result of this prediction when, really, we should probably draw a couple of more general conclusions – either that if a great economic theorist can't see a market crash in front of his eyes then probably all economists are hopeless at prediction or that no-one can tell whether a market is overvalued or not. Either way it doesn't offer much hope that anyone else can do any better.

1929, Not a Bubble?


Harold Bierman has looked at the evidence for obvious signs of overheating ahead of the 1929 Wall Street Crash and has come up with some interesting data. For instance:

"The financial fundamentals of the markets were also strong. During 1928, the price-earnings ratio for 45 industrial stocks increased from approximately 12 to approximately 14. It was over 15 in 1929 for industrials and then decreased to approximately 10 by the end…

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