Let's say that someone even could recognize that there's these social quirks that we have in terms of the behaviors of maybe, the word of mouth behaviors that we're hearing in terms of whether you should sell or whether you should buy. For instance, I'm thinking about the housing crisis. Now let's say even you could know as a homeowner, before you buy your second home to then rent it out to someone. Let's say that that you suspect we are in a "bubble". I did that by the way. Nonetheless, even if you know, if the market is still going, shouldn't you take advantage of that bubble? Now here's another issue. Yes. When a market is going up rapidly and you think it's because of psychology, you might want to short the market, the benefit - own a negative quantity. You can't short houses. Sure. So a lot of people, during the housing bubble, it's a little bit hard to get out of that market. But then a lot of people I'm sure did because they think it was going crazy. But the problem is you don't know when it's going to turn. And there's a folklore that it usually takes several years longer than you ever imagined for it to finally turn. And then it finally does. But if you are a short seller, you might go bankrupt before that time is reached. Or if you are a financial adviser, advising clients to stay out of the market, you will have lost all of your clients before the turning point comes. This is part of the tension that makes it hard to deal with these phenomena. Going on top of Olivia's point on stock price and value, when bubbles exist in the market for example in 2000 with the Dot-com bubble. How does that affect the ability of price to reflect or indicate value? The term bubble was coined in 1720, at the time of a stock market crash in France. And it's kind of stuck as a colloquial term. It spread to other countries from France and it was a colloquial term that stays with us. But academics have always had a little trouble with it. What it refers to in my mind is a... there's an upswing and then there's the bursting. The upswing of the bubble is when stock prices or real estate prices or some other speculative asset goes up as a sort of part of a social epidemic where the price goes up and people start talking. They remind themselves of good news, they forget about bad news. It goes up again and more people start thinking I should be in there shopping, I should be buying this. And then the price gets really high. Doubters started to appear saying this is crazy. First of all nobody believes them but then market starts going down and then they're thinking maybe the doubters are right. And so then they start to really get further down. Now this you might call it a theory. It's a theory that people in the news media said was obvious when they were writing reports or they could see. In the 1720 bubble you could go out on a street in Paris and you would find mobs of people all shouting and excited when the market was crashing or even before when it was going up. It looked crazy. Economists though who are more academic or more professional, don't naturally take such explanation. So I think the word bubble has had limited impact except for what they call a rational bubble which I won't get into. There is a theory about possibly rational levels. So economists are just by their nature, they're not psychologists usually, they don't get it. So in fact though the 2007 to nine world financial crisis was a time when the word bubble came into more broad use even among academics. It used to be not in the textbooks of finance, they put it in after that. And now you can actually say bubble without feeling embarrassed. It's kind of interesting how like the term bubble, it seems like assume that it's at some point it has to burst and then everything has to come back down to I guess the truer core of what it's supposed to be. I guess sort of related to that, do you think that there' something about the 2008 crisis that was different that made bubble a more appropriate term than had been for these previous projects? But I don't like is... Your metaphor point is right. The word bubble, coined by somebody 300 some years ago suggests that it grows like when you're blowing a bubble with a little bubble blower. It's getting bigger and bigger. And as you watch you think it's going to pop, is it going to pop? And then poof! It's totally gone, unless you blow up another one. But I don't think bubbles are quite like that because they don't crash completely. And then you never know, they can come right back up. So I think I would have preferred if I were back in 1720 naming it. I would call it an epidemic because epidemics don't just disappear. You know, they go a while then they recede and then they come back again. I think it's an epidemic too because it sort of suggests that it's contagious. Right? Right. I think I like epidemiology which is a course in the medical school, because it also suggests why it is that bubbles appear so mysteriously. It's the same way that let's say an influenza epidemic appears. Suddenly hospitals are reporting, there's lots of new cases. Do they know why? Well let's say maybe the virus mutated and suddenly it's more infectious. It's the same way with stock market bubbles. So suddenly the market goes up. It wouldn't be a virus or a story or a theory. And the theories mutate the same way viruses do. Like there's some news thing or some politician says something and suddenly it's more contagious, a better story that people will tell, they'll influence each other. I use the word bubble because I think I know what people mean by it. But I think it's really epidemic, the word we want to use. And the 2007, was that different. You know the thing that was really unique about 2007 was that we had the biggest real estate boom ever in major countries. Like notably, the boom was really big in United States, China, UK, Spain, Italy, and it was also in other places, Iceland, Ireland. It was really big, reflecting something. Why did it get so big? You know what, I think part of the reason is the efficient markets theory itself. Because before then there would be public leaders who would come out and say this is crazy. But now they didn't want to because they didn't want to appear unscientific. So science shows that these markets are right, uncannily right. So I'm not going to criticize it. And if nobody criticizes it, it can just go wild. During the efficient markets era of second half of the 20th century, it was as if there is this smart money out there evaluating the level of the market. But you know what. I never meet this smart money. I only meet people who are trying to predict where it's going in another year, not thinking about these big issues. Maybe there are some but are they really dominating the market? That's the kind of doubts that came forward after 2007. Do you think it's irrational for an investor during a bubble to invest in the market even though you might feel it's above other prices or going up? Oh yes. So is it really irrational to invest in a bubble? Can you say rational bubble like any of the other? Right. If you can predict when it will burst, then you would want to go in and ride with it. Now there are some theorists who've argued that that in fact gives a rational- I mentioned rational bubble or there's quasi rational bubbles where some people are rational and that their behavior exacerbates the bubble. So I think that maybe you do want to ride a bubble. But I think it's a tough business. So maybe also when you're in a bubble you might not like bubbles. It's a bubble when they burst. Maybe in hindsight you can tell it's a bubble but while you are in the... See one thing people have to realize, after the fact, there is a tendency toward what they call historical determinism. Reading back on history you imagine you could have seen it all coming, it was obvious. So in the 1930s for example, didn't people know World War 2 was coming? It wasn't that obvious. Well it seems that way to us but it wasn't at all obvious then. And it's the same true for any of these events. Just a follow through. How does short selling affect, like development short selling effect, the I guess the rise and fall of these bubbles? Right. So in the 1970s, Edward Miller who's a finance professor wrote a famous article about short selling saying, "You know what, I think this is a major article. It seems so obvious after you read it.". But before Edward Miller said, "You know what, this efficient markets hypothesis just can't be right because there's nothing to stop some group of zealots." We know that some people have crazy beliefs, right. Well there's nothing to stop them from going in and bidding up the price of some stock to some crazy level, and everybody else knows it's crazy. Unless you can short sell, that means borrow shares and sell them enough so you can offset all of these. But what if all these people buy up all the shares and they hold them personally so that they're not available for shorting, maybe you can't short sell. So what's to stop it? That was his question and you know the finance profession was embarrassed by this because they didn't have an answer. The answer is if short selling is hard to do, and in some countries like China for example it's been very difficult to short sell. If you can't short sell, there is nothing to stop crazy people from bidding up the price. You know it's free, the markets are free and open. Somebody gets a screwy idea that this stock should be worth a million times earnings. If they want to bid it up to that it's their business, they can do it. That's one reason why. Now in terms of housing market, traditionally the housing market you can't short a house, you can't say, "Can I borrow your house and I'll sell it, and then I'll pay you back with a house like it?" That doesn't happen. Now I worked with my colleagues to create a futures market for single family homes so that there would be an options market, so that there would be a possibility of shorting. You could buy a put option on a house. And we have that market. The problem with it is that it's not very liquid. I'm hoping that it will eventually,but this is at the Chicago Mercantile Exchange. We have 10 cities traded in the United States as a whole. There are other like the IPD in London which does commercial properties. There are ways of shorting real estate or property but they're not huge. And I think that short selling has its own inherent problems. It has to be facilitated by regulators and it has problems of itself that being a short seller is a risky business. You might go bankrupt trying it. And so it's just limited and that's an important reason to doubt market efficiency.
