In the past few weeks the US press has been full of talk that the real estate market is experiencing a bubble. Even Fed chairman Alan Greenspan (who no doubt caused it by keeping US interest rates so low for so long) has pronounced on it. If the UK experience is anything to go by, it could be said that the day before Greenspan spoke was the peak. House prices in the UK have been in effective retreat ever since Bank of England governor Mervyn King warned in the late spring last year that anyone buying a house should be prepared for prices to fall. The next day buyers went on holiday.
If one is looking for a truly disinterested expert, and one with the latest knowledge on bubbles, we recommend geophysicist Didier Sornette. The mathematics of Sornette’s discipline is well beyond the lay reader. The essence of it is to show how complex systems work. He is an expert in the study of earthquakes. Stock market and housing crashes are the financial equivalents.
When people think about housing they don’t tend to think of a complex system. They will first think about their own house, those in the neighbourhood, and then a national price index recently described in the press which provides a sense of overall direction. They will probably then invoke a sense of someone who made a killing on property, or whom they saw renovate and sell at a profit on some TV show. From this they will make decisions to buy or sell. There is a strong element of imitation in what motivates them.
These behaviours are definitely part of what makes up a market, but Sornette’s specialism is in analysing them mathematically through study of the price activity of markets. Sornette’s last paper on housing demonstrated that the UK housing market would peak late 2003 or mid 2004, and then be susceptible to a crash. At that time, he did not characterise the US market as a bubble, but in his latest paper he shows that, two years on, the US is in a bubble.
A bubble with a crash in the UK will be one thing, but a serious reversal in the US would be very damaging. It remains to be hoped that the pump priming that occurred in 2000-2001 has not created a greater problem from which the world economy will suffer a more severe hangover.
It is no doubt a symptom of our collective aversion and lack of understanding of mathematics that Sornette’s work is not major news.Donate and help me buy back my Fender ('About' tells you why) Tags: -finance-and-markets, black swans, business, chairman_alan_greenspan, didier_sornette, earthquakes, geophysicist, house_prices, life-the-universe-and-everything, mervyn_king, not-that-im-biased, stock_market