By Gabriele Denaro · 1 October 2026
A financial bubble forms when the price of an asset rises rapidly far beyond its intrinsic value, and then collapses. The difficulty is that, while it happens, many read the rise as a new normal. That is why a bubble is often recognised only in hindsight.
The tulip mania (1634-1637) in the Netherlands is considered one of the first documented speculative episodes, although historians now debate how large it really was. In 1720 the South Sea Bubble was heavy speculation in the shares of the South Sea Company, followed by a crash. In October 1929 Wall Street crashed after years of strong growth, in a context where buying on credit was widespread (one factor among others). Japan's late-1980s bubble involved stocks and property and peaked at the end of the 1980s and deflated through the early 1990s. The 2000 dot-com bubble was speculation in internet companies, many without real profits. The 2007-2008 financial crisis originated in the US housing bubble and in subprime mortgages, granted to borrowers with weak creditworthiness.
Bubbles feed on psychology. The phrase "irrational exuberance", made famous by Alan Greenspan in 1996, describes the excessive optimism that pushes prices beyond fundamentals. FOMO (fear of missing out) is the fear of missing an opportunity and leads to buying while prices rise; herding is following the crowd without making your own assessment; confirmation bias is seeking only information that confirms what we already think. The belief that "this time is different" often appears too.
The "greater fool" theory describes someone who buys an overvalued asset hoping to sell it to someone willing to pay even more. Leverage, such as buying "on margin" with borrowed money, amplifies both gains and losses: it makes bubbles more extreme and crashes more devastating.
Typical signs include euphoria, prices rising beyond all logic and the story that "this time is different". A price/earnings (P/E) ratio far above its history signals very optimistic expectations, but it is not proof of a bubble: it should be read together with other evidence.
A Ponzi scheme is not a bubble but a fraud: the money of new participants pays the returns promised to earlier ones, without enough real economic activity, and the system collapses when new inflows are no longer enough. It is named after Charles Ponzi.
Bubbles teach the importance of studying history and fundamentals, diversifying and keeping discipline in investing, rather than following the fashion of the moment. There is no way to know for sure when a bubble will burst: the goal is not to be swept away by it.
General educational information, not personal financial, tax or legal advice. It may be incomplete or out of date. Terms of use.