Investing in Czechia: How to recognize a market bubble

An investment professional with well over two decades’ experience in the wealth-management industry, James Pearcy-Caldwell is sharing his practical advice about managing money. In this section of his multi-part series, the finance expert examines how to recognize, approach, and respond to market bubbles.

In Pearcy-Caldwell’s eyes, many investors fall into the same cycle: buying into stocks at inflated prices, only to see them crash when the market corrects. This pattern has repeated throughout history, yet it continues to catch investors off guard. Why does this happen, and how can it be avoided?

“A market bubble occurs when an asset’s price rises far beyond its intrinsic value due to speculation rather than financial fundamentals,” explains Pearcy-Caldwell. This can happen in stocks, real estate, or cryptocurrencies.

Bubbles often begin with an exciting innovation, such as artificial intelligence or renewable energy. Early investors recognize the potential, and as prices increase, more people jump in, the expert says.

Media coverage amplifies the excitement, and the fear of missing out drives further speculation. Stocks can reach extreme valuations—sometimes trading at 50 to 80 times earnings—before skepticism fades and emotions take over.

At some point, the bubble bursts. Prices may decline gradually or collapse suddenly. 

“Investors, faced with plunging values of their holdings, now want to liquidate at any price before it gets worse in their mind,” says Pearcy-Caldwell.

Even more problematic, some investors reinvest in assets simply because they appear cheaper, without considering whether they still hold real value. This can lead to further financial losses.

Pearcy-Caldwell explains that many investors make decisions based on emotion rather than logic. “Market timing often relies more on luck than skill, and those who follow trends rather than fundamentals are at greater risk of poor outcomes,” he says.

A common example is the tech sector, where high-risk, high-reward investments attract speculators. While short-term gains are possible, long-term success requires careful analysis, not hype-driven decisions.

Exchange-traded funds (ETFs) and passive investing strategies can further drive bubbles. As these funds buy into rising stocks automatically, they can create the illusion of unstoppable growth. “However, when momentum slows, many investors holding overvalued stocks for years may face significant losses,” the wealth manager says.

Investors who buy into an ETF or a stock inflated by a market bubble and continue holding it when the bubble bursts often face significant losses. When this happens, many quickly attribute their misfortune to bad luck.

However, those who profit from the same investment rarely acknowledge luck as a factor in their success. Instead, they credit their expertise and decision-making skills. “This psychological bias complicates the emotional relationship investors have with their assets,” Pearcy-Caldwell summarizes.

Meanwhile, those who experience losses frequently blame external factors such as timing or market conditions. To summarize, if you credit your gains to good luck and timing, while attributing losses to bad luck or someone else’s fault, you may be among the large number of investors letting their emotions guide them. 

Upcoming in Part 5: Appearing rich versus being wealthy