Richard Posner defended the rationality of people who bought stocks during the bubble, writing:

People buy common stock when stock prices are rising. They (notoriously) bought houses during the early 2000s when house prices were rising. Since almost no one can predict the ups and downs of the stock market or the housing market, these purchases must have been motivated, Akerlof and Shiller argue, by something other than a rational investment strategy. But this is not at all obvious . . . Stocks have generally been a good investment, at least when held for a considerable period. . . .

I agree with Nate, who disagrees with Richard Posner by pointing out that, in fact, there was evidence that stocks were overpriced during the early 2000s, even at the time.

I’d like to add one comment. During all these bubble years, the experts were telling us over and over again how we should be buying stocks, how stocks were the best investment over the long term, and how we were all irrational for not putting more of our money into the stock market.

What’s the logic here? People were being irrational by hesitating to buy stocks when they were going up, then they were finally being rational by buying stocks when they had very high prices?

I think all this discussion is hindered by the overloading of the term “rational.” I imagine that just about everybody takes his or her money management seriously, and I’m sure people are trying to behave rationally with their investments. The trouble is that there are lots of rules out there to follow, so there’s more than one way to be rational. I agree with Nate that Posner’s implicit assumption–that people were following expert advice, and so they must have been applying (prospectively) good judgment–is misguided.