For those who are not familiar with what a stock bubble means, you should know that, as the name implies, it takes place in the stock markets. Stock market bubbles represent only one part of a larger class, economic bubbles. A bubble economy occurs when prices are inflated, meaning they are not justified by the intrinsic value of the assets traded. Specialists are not sure what causes such bubbles or financial balloons to occur.

Mathematical approximations have been made to explain this speculative mania along with the economic ones. These two methods have several points in common. The mathematical approach refers to the bubble price of assets as the difference between the real value and the value for which they are sold. This price is constantly driven by investors speculating on a further rise.

How do stock market bubbles form? Why do stock bubbles form? These two questions are very difficult to answer. Some financial analysts find the latter impossible to give a satisfactory explanation. Some analysts blame people’s greed. The flow of events goes something like this: when someone shows interest in a company’s stock, it becomes attractive to the other players as well. Then they decide to invest in stocks themselves, and prices suddenly start to rise. That’s a natural effect because high demand should mean the assets are valuable. That’s when the greed factor comes into play. Investors decide to stop selling until the peak of the value is reached. But speculation does not justify inflated prices and the intrinsic value of the assets is obviously less than the market value.

All this process takes place in the case of irrational investors, but in the case of a rational market, the stock bubble can only be explained by the unpredictability of the future. For better understanding, a great example would be the Wall Street Crash of 1929. A speculative boom led to national hysteria. A large number of people decided to invest in the stock market as a way to get rich overnight. People got more and more loans to invest, because they were so encouraged by the stock prices. This led to a further increase in prices, not justified at all by face value. They weren’t selling by jumping for a bigger profit. Suddenly, the price started to drop and it created panic.

In the difficult period of time that immediately followed, earlier investments in the gold bullion market proved to be the safest. During the Great Depression, gold was the only means of protection against bankruptcy, due to the intrinsic value of the precious metal.