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What Really Led Us Into the Great Recession?

Wall Street has infamously had its share of ugly Octobers, so Alison Southwick and Robert Brokamp chose this month to offer their listeners a special treat: a four-part series on the history of market crashes in the United States.

In this segment of the Motley Fool Answers podcast, guest and former Fool Morgan Housel helps them wrap things up with a post-mortem on the downturn we all think we know best, because it's so recently behind us: the Great Recession. According to Housel, one big factor was that people misunderstood the lessons of the dot-com bubble, and in trying to avoid similar pain, routed us squarely into a totally different bubble.

A full transcript follows the video.

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This video was recorded on Oct. 24, 2017.

Alison Southwick: Morgan, it's your turn to talk. As much as I want to blame Twitter, what led us into the Great Recession?

Morgan Housel: Let's just go with Twitter.

Southwick: I like Twitter!

Housel: Why not? I think if you start with the 1990s boom and then the .com bust, something happened after that. Jason Zweig of The Wall Street Journal is one who brought this up where he said investors are very good at learning their lesson, but they've learned too precise a lesson.

So after the .com bust people lost all this money trading .com stocks, and the lesson that they learned was the stock market is dangerous, but they didn't learn the lesson of leverage and going into things that they don't understand. So basically a lot of people, who lost a fortune in the .com bubble, packed up, took what money they had left, and went straight to real estate. It was almost instantaneous between that movement and then what the Fed was doing with interest rates; making leverage really appealing in the early 2000s. The real estate bubble happened basically the day the .com bubble ended and real estate prices started rising. And even though we had a recession in 2001-2002, real estate prices were rising all during that time. It had no impact, whatsoever, on real estate prices.

And this is what Robert Shiller talks about with the psychology aspect of bubbles. When you have something like optimism with an asset, that just feeds on itself, and it snowballs on itself, and you see your neighbors getting excited, and your brother and your sister, and your parents making money on real estate. And then optimism just spreads and it grows. So everyone knows what happened then.

Southwick: So no one was making money yet, right? They were just being able to afford more and more house than they could.

Housel: No, I think a lot of people were making money. It was the early 2002-2003...

Southwick: Just like flipping them? OK.

Robert Brokamp: Flipping them and taking out the home equity to buy things.

Housel: ... is really when things started getting big. You had a lot of people that purchased homes in the '80s and '90s for a mortgage interest rate of maybe 8-9%, which in the '80s and early '90s that's what a mortgage cost. And now you could refinance your mortgage at 3-4%. So people were doing that and getting a dramatically lower payment or just pulling a ton of equity out of their house that they could use to buy jet skis, and remodel their house, and whatnot.

Southwick: Always jet skis.

Housel: I know. Twitter and jet skis get blamed for everything.

Southwick: They should!

Housel: These poor products!

Southwick: There's a reason why.

Alison Southwick has no position in any of the stocks mentioned. Morgan Housel has no position in any of the stocks mentioned. Robert Brokamp, CFP has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Twitter. The Motley Fool has a disclosure policy.