One of my posts last week discussed the possibility of an economic bubble in the commodities market. Co-incidentally, a couple of days later I read this article in the Wall Street Journal which offered some very interesting insight into the mechanics of an economic bubble and some tips on how investors can spot them.
A couple of key insights I took from the article:
First, based on trading volume and comparing spot and futures pricing, the researchers quoted in the article come to the conclusion that commodities are expensive but are not in bubble territory.
Second, a very fascinating and counter-intuitive conclusion of the research is that in many cases, rational investors who spot a bubble would do better to go along with it, rather than try to attack it. Their recommendation to skeptical investors: if you spot a bubble, ride it to the top, get out quickly and start placing bets against the bubble, when things turn south. Interesting.
This reminds me of my business school accounting professor who is 1999 used to come to class frustrated that the stock market stopped making sense, that companies showing massive losses were achieving stratospheric valuations... and that his short positions were causing him painful losses. The market turned south only a few months later, but as the article quotes: the market can stay irrational longer than you can stay solvent... :-)