What is a bubble burst: A guide to understanding and preparing for investors

When it comes to bubble bursts, investors feel a chill. This phenomenon is not just about numbers decreasing on the screen but involves stories of massive financial losses, the collapse of confidence, and crises affecting the entire economy.

Introduction to Bubble Bursts

Bubble burst is an economic phenomenon that occurs when the value of assets (stocks, real estate, currencies, etc.) skyrockets abnormally beyond their true worth. Then, prices suddenly plummet.

The main cause is false investor beliefs that prices will keep rising forever. Speculative mania, excessive confidence, and an accommodating economic environment (low interest rates, abundant capital inflows) create a feedback loop that cannot sustain itself.

Historical Examples of Bubble Bursts

Subprime Crisis 2008: Collapse of the US real estate market

In the late 1990s, the US housing market grew incredibly. Banks issued mortgage loans to those unable to repay. Most borrowers did not buy homes for residence but for profit from price appreciation.

Complex financial instruments (Derivatives) tied to these loans gained popularity worldwide until many borrowers defaulted. The bubble burst violently, with debt securities losing about $15 billion USD. Many banks worldwide faced panic, and the global economy entered a prolonged downturn.

Asian Financial Crisis 1997: Collapse of the Thai market

Thailand experienced a similar situation in 1997. The booming real estate market and abnormally high interest rates attracted foreign capital. Investors flocked to buy properties believing prices would continue to rise.

On July 2, 1997, the government announced a devaluation of the baht. Foreign investors’ foreign currency debts suddenly soared. As investors tried to cut losses, the real estate bubble burst, severely impacting the Thai economy.

Main Types of Bubble Bursts in Different Markets

Stock Market Bubble

Occurs when stock prices rise faster than fundamentals (income, profits, assets). For example, the dot-com bubble, where new internet companies with no profits were valued at billions of dollars.

Commodity Bubble

Prices of physical resources such as gold, oil, industrial metals surge uncontrollably. When demand is high and speculation spreads, until supply increases or demand drops sharply.

Credit Bubble

Happens when financial institutions lend excessively. Rapid expansion of debt without regard to borrowers’ repayment ability creates a fragile situation that can easily lead to economic downturn.

Other Asset Bubbles

Currencies (dollar, euro, bitcoin, litecoin) can also form bubble bursts.

Factors Triggering Bubble Bursts

External Factors

• Low interest rates: Make borrowing cheap and investments more attractive
• Capital inflows: Foreign or large financial institutions extend credit
• New technology or products: Create excitement and confidence that “this time is different”
• Asset scarcity: Limitations in supply (real estate, commodities)

Investor Psychology Factors

• Cognitive dissonance: Investors ignore warning signs, only accept information supporting their beliefs
• Herd Mentality (Herd Mentality): Everyone is buying, so they rush in without proper research
• FOMO (Fear of Missing Out): Fear of missing the chance to get rich quickly
• Short-term mindset: Investors hope to exit before the bubble bursts

5 Stages of the Bubble Cycle

Stage 1: Displacement(

A new phenomenon emerges — internet, bitcoin, or a new investment space believed to change the economy.

) Stage 2: Boom### Capital flows in exuberantly, prices rise, many investors enter, and prices continue to climb, creating a positive feedback loop.

( Stage 3: Euphoria) Investors become irrational; everyone talks about this investment. Returns no longer matter; any asset investment seems profitable.

Stage 4: Profit Taking(

Some investors, seeing prices too high, start selling. Trading volume increases, signaling instability.

) Stage 5: Panic### As many realize the bubble will burst, a massive sell-off ensues. Everyone wants to exit their positions, prices fall freely, and the bubble officially bursts.

Signs that a Bubble Burst may happen soon

• Price diverges from fundamentals: Assets valued more than 50% above their (profits, income policies)
• Media and public hype: Everywhere talks about this investment, even ordinary people ask, “Should I invest?”
• High price volatility: Rapid rises and falls, increasing uncertainty
• High P/E ratios ###Price-to-Earnings Ratio(: P/E over 50 for stocks is a warning sign

How to Protect Yourself and Prepare for a Bubble Burst

) 1. Clarify your investment objectives

Before investing, ask yourself:

• Do I invest because I understand the asset, or because I fear missing out?
• Do I expect returns based on fundamentals, or from quick speculation?

If your answer is the latter, you may be contributing to a bubble burst.

( 2. Diversify your portfolio

Don’t put all your eggs in one basket. Asset diversification reduces risk from the collapse of a single asset class.

) 3. Limit exposure to high-risk assets

If you suspect a bubble burst may occur, avoid or reduce exposure to pure speculative assets.

( 4. Invest gradually

Instead of investing all at once, use dollar-cost averaging — invest small amounts over time. This helps avoid buying at the bubble’s peak.

) 5. Keep cash reserves

Having cash on hand allows you to:

• Take advantage of buying opportunities after the bubble burst
• Have a safety net if you need to sell during a crisis

6. Study and monitor the market regularly

Knowledge is the best protection. Read earnings reports, macroeconomic data, and expert opinions before making investment decisions.

Summary

Bubble bursts are recurring economic cycles. Whether in stocks, real estate, or credit markets, the main cause is often investor psychology — excitement, fear, greed — combined with external factors that facilitate it.

While we cannot prevent bubbles entirely, we can prepare by studying, maintaining financial discipline, avoiding greed, and implementing investor oversight systems to reduce damage and possibly profit from avoidable events.