FOMO Investing: The Psychology That Fuels Market Bubbles

Every bubble looks obvious in hindsight and irresistible while it inflates. From 17th-century tulip mania to meme stocks and crypto, a familiar human sequence recurs: prices climb, crowds rush in near the peak, the market turns then latecomers panic and sell. Behavioral finance studies why usually sensible people behave this way.

The engine most people name is ‘FOMO’, the fear of missing out. Surveying retail investors, Shilpi Gupta and Monica Shrivastava found that FOMO amplified the influence of ‘herding’ and loss aversion, nudging people from watching to buying.

Herding has a formal logic. Economists Sushil Bikhchandani and Sunil Sharma describe an informational cascade: once enough investors act, an individual can rationally copy the crowd, reading others’ purchases as hidden information and discounting her own doubts. Social proof does the rest.

Narrative carries the mood. Nobel laureate Robert Shiller calls a speculative bubble “a peculiar kind of fad or social epidemic,” spread by psychological contagion as rising prices generate stories that seem to justify them.

That helps explain why smart people buy at the top. Markus Brunnermeier shows even sophisticated investors often ride a bubble rather than bet against it, because timing the turn is treacherous.

But does psychology explain every bubble? The literature says no. Bubbles also run on credit and leverage. In the tradition of Charles Kindleberger and Hyman Minsky, manias are stoked by cheap money and easy borrowing, and Brunnermeier notes credit-financed bubbles do the most damage when they burst. Emotion needs fuel.

The evidence complicates the tidy story too. Studying cryptocurrencies, Ozkan Haykir and Ibrahim Yagli found every coin bubbled yet herding actually weakened during those episodes, concluding bubbles were “not explained by herd behavior.”