Unless you have been living under a rock, you heard the word “bubble” many times over the past years. Obviously I am talking about economic bubbles, including the stock market bubble, the real estate bubble, the technology bubble, the emerging economies bubble and, least but not last, the gold bubble.
But what exactly is a bubble?
According to Wikipedia, an economic bubble (sometimes referred to as a speculative bubble, a market bubble, a price bubble, a financial bubble, a speculative mania or a balloon) is “trade in high volumes at prices that are considerably at variance with intrinsic values”.
In other words, a bubble requires two factors to happen: an asset that is being traded in high volumes, and prices that are much higher than the real value of the asset in question.
As you can see, high prices alone never indicate a bubble. Just because stock market prices are high, for example, it doesn’t mean that we are experiences a stock market bubble. This would only be the case if the price of most shared being traded was artificially higher than their real values.
The same is true for gold right now. While the price is on an all-time high (today it’s trading at $1524 per ounce), this alone doesn’t mean we are experiencing a gold bubble. This would would be the case if the real value of gold was much lower than $1,500 per ounce. But is it?
Many analysts don’t think so. In fact there are many predictions around that gold prices are going to break the $2,000 per ounce mark within the next 12 months.
Whenever you hear the “bubble” term in the future, therefore, don’t take it for granted. Instead, analyze whether the prices are high because the intrinsic value of the asset in question is indeed high (or getting higher due to other economic factors).