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Told You So

In the world of the ancient Greeks, Cassandra was a prophetess with a problem. She was blessed by Apollo with the ability to read the future, but her benefactor added a condition that turned the blessing into a curse: Nobody was to believe her often dire predictions.

Robert Shiller, the Stanley B. Resor Professor of Economics, knows how Cassandra must have felt. Last spring, with stock market averages close to historic highs and pundits suggesting that what goes up needn’t come down in the so-called “new economy,” Shiller issued a decidedly downbeat prophecy. The market was “highly overpriced,” he wrote in his Irrational Exuberance.

His advice: “Get out.”

The book, whose title comes from the famous remark Federal Reserve chairman Alan Greenspan used in 1996 to characterize both investors and the high-flying stock market, examines the factors that underlie the ultra-boom times known as “speculative bubbles.” Shiller, a specialist in market volatility, has pioneered a field he calls “behavioral finance”—the study of what makes investors tick. “I’ve never been that interested in investing per se,” he says. “When I went to football games, I’d find myself more interested in watching the crowd than the action on the field.”

Anthropologists have documented a cross-cultural fascination with risk and profit—and with gambling—and when Shiller looked at stock market conditions during the mid to late 1990s, he found a casino rather than a rational exchange in which the relationship between a stock’s price and its earnings reflected a company’s real worth. This untenable situation was all too reminiscent of 1929, and the bubble, he predicted, was about to burst.

It was a pronouncement nobody wanted to believe, but subsequent events proved him right on target. “The book’s timing was absolutely perfect,” says Shiller.

Soon after Irrational Exuberance arrived in bookstores in March 2000, the technology- and dot-com-heavy NASDAQ imploded, losing nearly half of its value by year’s end. The Dow Jones, S&P, and other indices became decidedly un-bullish as well. “Investors learned that the law of gravity still applies,” the economist explained.

Shiller, who followed his own advice and traded away his stocks in 1998—“a bit early,” he admits—has become something of a financial superstar. His book, which is coming out in paperback this spring, was a fixture on the New York Times bestseller list last year and has been translated into ten languages. A Cassandra no more, Shiller’s opinion is now in steady demand.

The name recognition has helped boost attendance in the undergraduate course on financial markets Shiller has offered for the past decade. “I warn students against overconfidence,” he says.

It is sage advice. “There have been speculative bubbles since the ’Tulip Mania’ in Holland in the 17th century,” Shiller says, citing the classic example of investor delusion that drove the price of tulip bulbs to absurd heights and carried away vast fortunes when prices plummeted. And his studies of investor psychology and infectious, if misplaced, optimism don’t lead him to believe that the dot-com debacle is the last chapter of the story. Says Shiller: “There’ll always be irrational exuberance.”  the end


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