A bubble bursts when the rapidly inflated price of an asset collapses quickly, typically because its market value has far exceeded its true or intrinsic value.
Understanding a Market Bubble
A market bubble is characterized by the rapid inflation of an asset's market value. This often occurs due to speculative buying, easy credit, or a belief that prices will continue to rise indefinitely, creating a positive feedback loop. However, this upward trajectory is unsustainable.
The Point of Collapse
According to the definition, a bubble burst, which is the equally rapid decline following the inflation, happens when the price of a good surpasses its intrinsic value¹. Intrinsic value is the perceived true or fundamental worth of an asset, based on factors like earnings, assets, or market conditions, rather than just market price.
When the price gets too far ahead of this underlying value, the market becomes unstable.
The Bursting Process
The collapse, or "burst," is often triggered by a shift in market sentiment, a piece of bad news, or simply the realization that prices are unsustainably high. As some investors start selling to lock in profits, others panic and sell to avoid losses. This wave of selling can lead to a rapid decline in prices, unwinding the previous gains very quickly.
Here's a simplified view of the process:
- Phase 1: Rapid price increase (inflation)
- Phase 2: Price exceeds intrinsic value
- Phase 3: Shift in sentiment or trigger event
- Phase 4: Mass selling begins
- Phase 5: Rapid price decline (the burst)
This process can have significant impacts on individuals, businesses, and the broader economy. Examples include the Dot-com bubble burst in the early 2000s and the housing bubble burst that contributed to the 2008 financial crisis.
Source¹: [Reference information provided]
