Eugene Fama and Robert Shiller of Asset Bubbles Analysis
Eugene Fama is known for his development of the famous efficient-market hypothesis. According to the EMH, investors are rational and prices would reflect information investors receive. Fama himself even denied the existence of economic bubbles. Robert Shiller on the other hand has been known for his study of behavioral finance and the prediction of the dot-com bubble. There seems to be no agreements Shiller and Fama can have the subject of asset bubbles since the two have different opinions on how the market behaves. However, one important conclusion of this analysis suggests that the two scholar's different views may be based on the same fundamental idea.
An asset bubble, or an economic bubble, is usually defined as when prices appear to be driven by investor's incorrect views instead of the intrinsic value or the fundamental of the assets. While Eugene Fama denies the existence of the so called bubbles, Shiller proves the existence of bubbles with a description that includes rapid increase in prices and the investors getting emotional with the increases.
Shiller's description of the bubbles is quite convincing. For example, during the housing bubble when prices increased at a dramatic speed, many people showed irrational emotions. People who invested in houses and enjoyed the rapid increase of prices convinced themselves and some others that the housing market would never go down. Encouraged by this irrational belief, many rushed into the housing market without realizing the risk. But when the bubble finally busted, like any bubble is supposed to end, many investors lost houses and investments.
However, unlike Robert Shiller who has successfully predicted bubbles, most of us can not, or maybe unwilling to, identify a bubble until it bursts even if we are shared with the same information that Robert Shiller has. In other words, the so called bubbles will always occur unless investors, as a...