Bubble Trouble
Key Takeaways
News about a stock market bubble has investors worried about a crash. While there are many studies on such bubbles around, the research results remain inconclusive in identifying a bubble, let alone predicting its direction.
Singapore property, crypto (bitcoin), and the recent popularity of the private equity and credit market, could all be possible bubbles — but they could also continue their march upwards.
At some point, we will be confronted with the issue surrounding the definition of asset bubbles — In what future scenario does the asset justify its price? At GYC, we continue to stick to tried and tested academic principles and investment methodologies to manage your investments.
A pin lies in wait for every bubble and when the two eventually meet, a new wave of investors learn some very old lessons.
— Warren Buffett
Recent news about the stock market bubble has again raised fears about a possible market crash, with headlines like:
Five Signs of a Market Bubble Investors Are Tracking — WSJ
Wall Street ‘euphoria’ sparks bubble warnings — FT
BofA’s Hartnett Renews Warnings on Bubble Risks for Stocks — Bloomberg
Investors are using borrowed money to buy stocks at a pace last seen during market bubbles — CNBC
An asset bubble is defined as a rapid rise in the price of an underlying asset, such as stocks, bonds, real estate, or commodities, without a corresponding rise in its fundamentals (Investopedia). The problem is that the only sure way to know that you were in a bubble is when it bursts. Until then, a fast-appreciating asset may appear overvalued, only to have its price continually rise. Anyone who has tried to blow one last breath into a balloon already at its ‘limit’, finding it actually had the space for a few more breaths, would find this story familiar.
While there is a substantial amount of theories floating around on how to identify an asset bubble, often the reality is that it is much more complicated. Research by Yale’s William Goetzmann shows that it is actually extremely hard to identify an asset bubble. He showed that assets whose prices more than double over one to three years are twice as likely to double again in the same time frame as they are to lose more than half of their value. Yet this is also at odds with other available data regarding bubbles bursting — it only goes to show that identifying a bubble is incredibly difficult, let alone predicting the direction it could go. As such, we should embrace the fact that there is a lack of certainty on the matter.
So are we in a bubble?
The correct answer, non-conclusive as it may be, is “possibly”. Some specific assets, such as Singapore property, digital currencies, and certain segments of private equity and the private debt market, seem quite frothy. But when looking at the broader stock market, the answer is mixed.
The latest URA data in the chart below shows that private residential prices are continuing their relentless march upwards. Public housing is also following suit; a quick internet search shows that there were 1,035 HDB flats sold above $1M in 2024 — an increase from the 470 sold in 2023. The property price index shows that prices have quadrupled since the early 1990s, but we have not seen the same rise in wages.
For digital currencies, bitcoin has risen nearly +600% (see chart below) from its recent lows in 2022 — a phenomenal rise for an asset that does not produce cash flows, has no intrinsic value, and whose price is determined purely from demand and supply — the opposite of what one would expect from an asset meant to hedge against inflation and currency depreciation.
The private asset market has also seen huge growth in recent times. The tripling in size of the private credit market since 2020 has led to a significant rise in Payment-in-Kind (PIK) financing. This allows borrowers (who are supposed to pay you an interest on their loans) to not pay them; instead they add it to the loan principal. Typically viewed as a mechanism for distressed companies, it provides relief for companies that are facing cash flow problems. However, this could imply that the private debt landscape is under some form of stress as borrowing costs have risen (following the rapid rise in interest rates) and many firms find it hard to refinance at current rates.
Data from JP Morgan shows that PIK income now forms a significant amount in some of the popular private credit vehicles, which is a potential source of concern. These funds are increasingly relying on income that is not being paid in cash, but is capitalised and added to the debt principal. If the companies taking on PIK debt are unable to repay their obligations when due, the funds that provided this credit could face substantial losses.
Coming back to bubbles, it is hard to tell whether we are in one now, but there could be signs — all anecdotal, of course.
Day Trading is Back
Your favourite fruit seller at the local market is dabbling in stocks, options and all manner of derivatives. In the time it takes for you to choose a rack of bananas, he has made $5,000.
Everyone is an Investment Genius
School dropouts are touting their millions made from their investment prowess.
Family Dinners Turn Into Investment Seminars
When your mom starts telling everyone at the dinner table which bond has the highest coupon or when Uncle Tan wants to know how a covered call strategy works, you probably want to get a little wary.
Assets like property, crypto, AI, and growth stocks may continue their rise for some time to come, making those who went all in that much richer. However, it is hard to identify bubbles, let alone pinpoint when bubbles could end. At some point, we will be confronted with the issue surrounding the definition of asset bubbles — In what future scenario does the asset justify its price?
As such, we will continue to stick to tried and tested academic principles and investment methodologies to manage your investments. Diversification, value, profitability, and long-term investing will all come together to give you the investment outcome that we all deserve.
