There are more bubbles floating around the earth today than I have noticed in my entire career. Bubbles begin with legitimate economic opportunity but end up crowding out legitmate functions and market signals, resulting in all sorts of distortions and misallocations of resources. They start harmlessly enough where opportunity exists, for where opportunity exists, investment is attracted to capture a return.
A bubble happens when capital overpopulates an opportunity and drives its trading value higher than its fundamental economic value. Since all deviations from reality are at some point rationalized, we can watch at some distance, the natural cycle of a bubble from formation to bursting in a dozen or more on-going markets but some of them we are caught up in more directly.
My son took a position in Orlando, Florida a couple of years ago and as I helped him look for housing, I was shocked and amazed at the obvious bubble developing in the market there. The best advice at the time would have been to rent until the bubble popped and then move in for a properly priced purchase.
What I saw as we traveled around was brand new subdivisions with "For Rent" signs in practically every yard. Real Estate brokers were buying the new homes and renting them for a year and then flipping them for 20-30% appreciations.
At the time there was legitimate need to build more housing in Orlando since the state of Florida estimated that everyday, they had a net increase of 800 persons moving there to live. When speculators saw the shortage of housing beginning to properly drive price up, they jumped in and created more demand by speculatively purchasing housing and taking it off of the buy/sell market.
That mania built on itself far beyond Orlando to California and much of the nation and sent false signals of demand to the builders who were only more than happy to continue building and engaging in some of the same speculative activity. This sent prices to the moon, far in exess of the value of housing as a "place to live". The price became the sum of the value of the home as a place to live plus a speculative income component.
In the final throes of the bubble, mortgage brokers popped up all across the nation in double-wides and began offering more and more creative and irrational ways for people with marginal income to purchase average to above average housing. They did this with teaser rates, interest only loans and non-conforming loans of every description etc. This drove more artificial demand since people with no business buying a home at all (or at least in a given price range) were suddenly enabled to do so. This added demand drove prices even higher until...the inevitable bursting.
Some condition trips up the escalation and then there is a rush to "deleverage" and pull out by speculators, such as is happening in the commodity markets today. Gold is off around $100 an ounce in the last couple of days and Oil down $10/barrel. The largest percentage declines in decades. Oil and gold (and a lot of other commodities) have a long way to go before the rationalization is completed.
