Irrational Exuberance

Shiller credits an unprecedented confluence of events with driving stocks to uncharted heights. He analyzes the structural and psychological factors that explain why the Dow Jones Industrial Average tripled between 1994 and 1999, a level of growth not reflected in any other sector of the economy. In contrast to many analysts, Shiller stresses circumstances that alter investors' perceptions of the market. These include the entry of the Internet into American homes, the misimpression that the aging of the baby-boom generation builds long-term protection into the market, and herd behavior, such as day-trading.
He also examines cultural factors, including sports-style media coverage of the Dow's ups and downs and "new era" thinking about the economy.
He considers--and challenges--efforts to rationalize exuberance that are based on either efficient-markets theory, narrowly construed, or the claim that investors have only recently learned the true value of the market.

In the most controversial portion of the book, Shiller cautions that a market that is overvalued by historical standards is inherently precarious. Among his prescriptions is an urgent plea to immediately end what he argues are perilous schemes to privatize social security in favor of plans to reform it. He also argues that private pension plans that encourage many people to put their entire retirement funds in the stock market should be modified. And he calls on our savings and investment institutions to take more sensible account of emerging risk-management principles. Shiller's analysis is convincingly documented, and--regardless of the market's future behavior--his book will stand as an important elaboration of why stocks soared and what our investment alternatives are.

Irrational Exuberance is a must-read for pension-plan sponsors and endowment managers in the United States and abroad. It will also be studied by investment advisers, policy makers, and anyone from Wall Street to Main Street who doesn't want to be caught sitting on the speculative bubble if (or when) it bursts.

Robert J. Shiller is the Stanley B. Resor Professor of Economics at Yale University. He is author of Market Volatility and Macro Markets, which won the 1996 Paul A. Samuelson Award.

Reviews:

"Dazzling, richly textured, provocative . . . It is by far the most important book about the stock market since Jeremy J. Siegel's Stocks for the Long Run. . . ."--William Wolman, Business Week

"Irrational Exuberance should be compulsory reading for anybody interested in Wall Street or financially exposed to it; at the moment, that would be roughly everybody in the United States. . . ."--The Economist

"Robert Shiller . . . has done more than any other economist of his generation to document the less rational aspects of financial markets. . . . Mr. Shiller believes that the whole stock market, not just the Dow, is inflated by a speculative bubble."--Paul Krugman, The New York Times

"During the past decade, he has emerged as a leader in the new field of "behavioral finance" which seeks to apply lessons learned from other academic disciplines, particularly psychology to economics. Irrational Exuberance is not just a prophecy of doom. Encompassing history, sociology, and biology, as well as psychology and economics, it is a serious attempt to explain how speculative bubbles come about and how they sustain themselves."--John Cassidy, The New Yorker

Alan Greenspan faces long odds in trying to nudge the stock market to where he'd like it to go. The chairman of the Federal Reserve has argued that the buoyant market--by making Americans feel so much wealthier--has triggered a consumer spending spree that threatens inflationary wage pressures. The idea is to dampen spending and the ravenous appetite for stocks. Anyone who thinks this will be easy should read Irrational Exuberance, a new book by Yale University economist Robert J. Shiller. Beyond arguing that the present market is a 'speculative bubble,' Shiller contends that investor psychology is so given to herd behavior that it's almost impossible to manipulate or even influence. The market can 'go through significant mispricing lasting years or even decades'."--Robert J. Samuelson, The Washington Post

"Thus it is an event of some significance that Shiller has written a crystal-clear and tough-minded critique of the factors that have driven US stock markets to their current levels and called his book Irrational Exuberance. In it, he argues that Federal Reserve chairman Alan Greenspan had it exactly right when he uttered the famous phrase in a speech in 1996. The current high levels of the market don't represent a consensus judgment by a cadre of sober experts, says Shiller. Instead, today's market is sky high because of wishful thinking by millions of people, egged on by professionals in and around Wall Street whose incentives all run in the direction of the more the merrier."--David Warsh, Boston Globe

"Irrational Exuberance is likely to cause a stir. . . . Shiller illustrates how the current market is like a naturally occurring Ponzi scheme in which investors become promoters for the game after receiving initial payments with money taken from subsequent investors."--David Henry, USA Today "This is an excellent book by a distinguished scholar. It raises an issue of the utmost importance for the U.S. economy and presents a persuasive case that the U.S. stock market may be significantly overvalued. It is well written for a popular as well as a professional readership."--Michael Brennan, Anderson School of Management, University of California, Los Angeles

Table of Contents

List of Figures and Tables ix
Preface xi
Acknowledgments xix
One The Stock Market Level in Historical Perspective 3

Part One Structural Factors
TWO Precipitating Factors: The Internet, the Baby Boom, and Other Events 17
Three Amplification Mechanisms: Naturally Occurring Ponzi Processes 44

Part Two Cultural Factors
Four The News Media 71
Five New Era Economic Thinking 96
Six New Eras and Bubbles around the World 118

Part Three Psychological Factors
Seven Psychological Anchors for the Market 135
Eight Herd Behavior and Epidemics 148
Part Four Attempts to Rationalize Exuberance
Nine Efficient Markets, Random Walks, and Bubbles 171
Ten Investor Learning-and Unlearning 191
Part Five A Call to Action
Eleven Speculative Volatility in a Free Society 203
Notes 235
References 269
Index 283