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I have been increasingly thinking about whether if we are in a bubble state as the stock market has surged sharply over the past month. This made me to do some research on ways to recognize bubble and the following is what I have found on the net .

How Bubbles Grow: 12 Easy Steps

1. A believable concept offers a revolutionary and unlimited path to growth.

2. Surplus of funds and lack of opportunities lead to buying or investing in anything available.

3. An idea is complex and cannot be totally explained or related to an investor.

4. The crowd imitates the leader. All Aboard! Even the gardener has a tip!?

5. Prices fluctuate from traditional level to overvalued level, THEN to all new ground and all time highs.

6. New levels are sanctioned by experts. "We are in a new Paradigm!"

7. Fear of missing the boat takes over. Cloning of the idea occurs as many new overvalued competitors enter the market.

8. Lending practices are eased. Money flows like water to anything or anyone with a new idea.

9. Cult figures emerge for the new paradigm. The media promotes lifestyles, not substance.

10. The Bubble lasts longer than expected. Critics are dismissed. The last suckers are sucked in.

11. Fraud emerges as partly responsible for the bubble as the first cracks show in the bubble.

12. Finally, everyone has a reason why it cannot continue. But nobody dumps, and all hold onto their profits. No new buyers. Market stalls.

How a Bubble Bursts

1. A continued new supply of lower priced offerings occurs from rising prices. New IPO's get bigger and bigger

2. There is a rise in interest costs. The Government declares "Excessive Exuberance" and tightens credit too quickly.

3. Prices collapse and everyone heads for the exits at the same time. With no more buyers, prices hit free fall.

4. Fraud is uncovered in many diverse industries, and in monitoring and auditing agencies. This leads to more selling.

5. Governments intervene and give investors time to get out before the real decline.

Rules to Live By
1. Do not extrapolate the future from the present.

2. Trends continue for a long time (2-5 years) and then suddenly reverse chaotically. Witness the Tech Bubble.

3. Intermittent secondary corrections occur at Fibonacci Levels of 38%, 50% and 62% that result in classic Bull or Bear Traps.

4. Bottom picking begins several different times, trying to restart the Bubble, but to no avail. Massive losses occur to professionals trying to manipulate the markets.

5. Finally everyone recognizes that "Trends go further than you expect, and last longer than expected." Everyone gives up and sells.

6. As the volume of the decline decreases, a slow recovery begins.

Above points taken from http://www.solerinvestments.com/Online-Trading/Stock-Market-Crash.htm 


Despite personally worrying over the possibility of a bubble, I am still approximately 80% vested in the market now. Reason being, I believe there's more upside due to  1) lesser uncertainty over bank 2) more economic indicators showing it is recovering 3) Read some article mentioning a lot of cash are sidelined by fund houses meaning more fund will be flowing soon 4) Stock market is usually 3-4 months ahead of the economy.