What is a stock market bubble?

A stock market bubble refers to a surge in share prices to levels significantly above their fundamental value. Because there is disagreement between market participants as to that value, bubbles can be hard to detect as they are taking place. Once a bubble bursts, a stock market crash often follows.

Where have you heard about a stock market bubble?

Because most investors in stocks make money when prices go up, you won’t often hear pundits suggesting that a market is in a bubble. Most of them failed to call the dotcom bubble of the late 1990s, where excessive speculation in tech stocks was followed by a market collapse.

What you need to know about a stock market bubble.

As an investor in shares, the ability to recognise when a stock market bubble is developing is crucial to the performance of your portfolio. However, it can be hard to ignore the herd mentality that behavioural finance theory believes is the cause of these bubbles. The dotcom bubble was a perfect example: when everyone else seems to be making money by buying shares in tech stocks with no sustainable business model it’s hard not to follow the crowd, even at ever inflating prices. Investors should attempt to watch for stretched valuations, market complacency and weakening technical indicators.