Tag Archives: tech

Looking Beyond Apple and Microsoft

As the 1970s came to a close, six of the world’s ten largest companies were in the oil exploration, drilling, and services business. Just a few years earlier, on April 1, 1976, Steven Jobs and Steven Wozniak, two college dropouts working out of a garage, formed Apple Computers, Inc. In April 1975, Bill Gates and Paul Allen formed a company called Micro-Soft.

Four decades later, these two technology startups are the world’s largest companies, far surpassing the largest oil companies of the 1970s. In fact, the combined market capitalization of Microsoft and Apple is larger than the aggregate market cap of the domestic oil industry. Even more astounding, the combined market cap of Microsoft and Apple just surpassed the total market cap of the entire German stock market.

The table below shows the rotation of the world’s largest publically traded companies over the last fifty years. Of the companies shown below only five have been in the top ten for more than one decade.

Throughout history, most of the world’s largest companies are routinely supplanted by new and different companies from decade to decade. Furthermore, different industries tend to dominate each decade and then fade into the next decade as new industries dominate. For instance, in the 1970’s big oil accounted for six of the top ten largest companies. In the 1980’s, Japanese companies held eight of the top ten spots. In the 1990s it was telecom, the 2000s were controlled by banks and commodities, and this past decade was dominated by technology and social media companies.  

Throughout history, most of the world’s largest companies are routinely supplanted by new and different companies from decade to decade. Furthermore, different industries tend to dominate each decade and then fade into the next decade as new industries dominate. For instance, in the 1970’s big oil accounted for six of the top ten largest companies. In the 1980’s, Japanese companies held eight of the top ten spots. In the 1990s it was telecom, the 2000s were controlled by banks and commodities, and this past decade was dominated by technology and social media companies.  

While table offers several insights, we believe the most important lesson is that our investment strategies must focus on the future and our dependence on past strategies must be carefully considered. Today, two college dropouts in their parent’s basement fooling around with artificial intelligence, block chain, or robotics may prove to be worth more than Apple, Microsoft, or Amazon in just a few decades. The table also emphasizes the importance of selling high and rotating to that which has “value”.

To emphasize that point, we constructed the following graph. Although simple, it effectively illustrates the theme by comparing one stock looking backward and one stock looking forward as an investment strategy. The backward-looking strategy (blue line) buys the largest company at the end of each decade and holds it through the following decade. The forward-looking strategy (orange line), with the gift of 20/20 foresight, buys the company that will be the largest company at the end of the new decade and holds it for that decade.  For example, on January 1, 2010, the forward-looking strategy bought Microsoft and held it until December 31, 2019, while the backward-looking strategy bought Exxon and held it over the same period.

Due to the split-up of AT&T and poor price data, we used GM data which had the second largest market capitalization in 1969. For similar reasons, we also replaced Nippon Telephone and Telegraph (NTT) with The Bank of Tokyo. The graph is based on share price returns and is not inclusive of dividends.

The forward strategy beat the S&P 500 by over 12% a year, while the backward-looking strategy grossly underperformed with a negative cumulative annualized price return over the last 50 years. As startling as the differences are, they fail to provide proper context for the value of 50 years of compounding at the annualized rates of return as shown. If all three portfolios started with $100,000, the backward-looking portfolio would be worth $59,000 today, the S&P 500 worth $3,500,000 today, and the forward-looking portfolio would be worth $791,000,000 today.

Summary

Although no one knows what the top ten list will look like on December 31, 2029, we do know that the next ten years will not be like the last ten. The 2000’s brought two recessions and for the first time in recorded history, the 2010s brought NO recessions. Investors need to be opportunistic, flexible, creative and forward-looking in choosing investments. Investing in today’s winners is not likely to yield us the results of yesterday. It is difficult to fathom as Apple and Microsoft drive the entire market higher, but history warns that their breath-taking returns of the last decade should not be expected in the 2020’s. In fact, history and prudence argue one should sell high.

The Startup Bubble Is A Derivative Of The Stock Market Bubble

TechCrunch recently posted a fascinating chart of the monthly count of global VC deals that raised $100 million or more since 2007. According to this chart, a new “unicorn” startup was born every four days in 2018. Unfortunately, this is even more evidence of the tech startup bubble that I have been warning about.

Big Funding Rounds

Here’s the list of “unicorn” companies worth more than $1 billion as of the third quarter of 2018:

unicorn-q1-3-2018

The world has gone completely startup crazy over the last several years. Spurred by soaring tech stock prices (a byproduct of the U.S. stock market bubble) and the frothy Fed-driven economic environment, countless entrepreneurs and VCs are looking to launch the next Facebook or Google. Following in the footsteps of the dot-com companies in the late-1990s, startups that actually turn a profit are the rare exceptions. Unfortunately, today’s tech startup bubble is going to end just like the dot-com bubble did: scores of startups are going to fold and founders, VCs, and investors are going to lose their shirts.

The chart below shows the Nasdaq Composite Index and the two bubbles that formed in it in the past two decades. Lofty tech stock prices and valuations encourage the tech startup bubble because publicly traded tech companies have more buying power with which to acquire tech startups and because they allow startups to IPO at very high valuations.

Nasdaq Composite Index

In the chart below, I compared TechCrunch’s monthly global VC deals chart to the Nasdaq Composite Index and they line up perfectly. Surges in the Nasdaq lead to surges in VC deals, while lulls or declines in the Nasdaq lead to lulls or declines in VC deals (yes, I’m aware that correlation is not necessarily causation, but there is a causal relationship in this case).

VC Deals vs. Nasdaq

Please watch my recent presentation about the U.S. stock market bubble to learn more:

I believe that a very high percentage of today’s startups are actually malinvestments that only exist due to the false signal created when the Fed and other central banks distorted the financial markets and economy with their aggressive monetary stimulus programs after the global financial crisis. See this definition of malinvestment from the Mises Wiki:

Malinvestment is a mistaken investment in wrong lines of production, which inevitably lead to wasted capital and economic losses, subsequently requiring the reallocation of resources to more productive uses. “Wrong” in this sense means incorrect or mistaken from the point of view of the real long-term needs and demands of the economy, if those needs and demands were expressed with the correct price signals in the free market. Random, isolated entrepreneurial miscalculations and mistaken investments occur in any market (resulting in standard bankruptcies and business failures) but systematic, simultaneous and widespread investment mistakes can only occur through systematically distorted price signals, and these result in depressions or recessions. Austrians believe systemic malinvestments occur because of unnecessary and counterproductive intervention in the free market, distorting price signals and misleading investors and entrepreneurs. For Austrians, prices are an essential information channel through which market participants communicate their demands and cause resources to be allocated to satisfy those demands appropriately. If the government or banks distort, confuse or mislead investors and market participants by not permitting the price mechanism to work appropriately, unsustainable malinvestment will be the inevitable result.

Rising interest rates and the overall tightening monetary environment will lead to the popping of today’s stock market bubble, which will then spill over into the tech startup bubble.

If you have any questions about anything I wrote in this piece or would like to learn how Clarity Financial can help you preserve and grow your wealth in the dangerous financial environment ahead, please contact me here.

These Are The Headlines You See In A Bubble

The world has gone completely startup crazy over the last several years. Spurred by soaring tech stock prices (a byproduct of the U.S. stock market bubble) and the frothy Fed-driven economic environment, countless entrepreneurs and VCs are looking to launch the next Facebook or Google. Following in the footsteps of the dot-com companies in the late-1990s, startups that actually turn a profit are the rare exceptions. Unfortunately, today’s tech startup bubble is going to end just like the dot-com bubble did: scores of startups are going to fold and founders, VCs, and investors are going to lose their shirts. In this piece, I wanted to show a collection of recent news headlines (all from Business Insider) that capture the zeitgeist of the tech startup bubble – please remember these when the bubble bursts and everyone says “what were we thinking?!”

These Silicon Valley venture capitalist trading cards should tell you where we are in the cycle (close to the end) (link):

VC Cards

When trillions of dollars worth of central bank “Bubble Money” is sloshing all over the globe looking for a home, startups are a popular holding container (link):

5 startups

Since when did throwing “insane” amounts of cash into a hot industry ever end well? It never does and this time will be no exception. Masayoshi Son is definitely “Bubble Drunk.” (link):

Masayoshi Son

So, she started as a VC at age 17?! And the companies she invested in are worth billions? That’s what happens when central banks hold interest rates at record low levels for a record length of time and flood the economy and financial markets with trillions of dollars worth of liquidity. As the old saying goes, “a rising tide lifts all boats.” Also, “never mistake a bull market for brains.” (link)

24 Year Old VC

During a bubble, it is common to see fantastical stories about young wunderkinds getting hired for grown-up jobs, starting companies, making fortunes, etc. in the industry that is experiencing a bubble. (Undoubtedly, the parents play a very large role in opening doors for these kids and getting them media coverage – “it’ll look great when applying to Harvard!” ). Another example of this is the story of the 11 year-old “cryptocurrency guru” that was circulating during the crypto bubble earlier this year before the crypto price implosion. (link)

Coder

Pretty soon, you will see many more headlines like this (link):

25 Most Valuable

I believe that a very high percentage of today’s startups are actually malinvestments that only exist due to the false signal created when the Fed and other central banks distorted the financial markets and economy with their aggressive monetary stimulus programs after the global financial crisis. See this definition of malinvestment from the Mises Wiki:

Malinvestment is a mistaken investment in wrong lines of production, which inevitably lead to wasted capital and economic losses, subsequently requiring the reallocation of resources to more productive uses. “Wrong” in this sense means incorrect or mistaken from the point of view of the real long-term needs and demands of the economy, if those needs and demands were expressed with the correct price signals in the free market. Random, isolated entrepreneurial miscalculations and mistaken investments occur in any market (resulting in standard bankruptcies and business failures) but systematic, simultaneous and widespread investment mistakes can only occur through systematically distorted price signals, and these result in depressions or recessions. Austrians believe systemic malinvestments occur because of unnecessary and counterproductive intervention in the free market, distorting price signals and misleading investors and entrepreneurs. For Austrians, prices are an essential information channel through which market participants communicate their demands and cause resources to be allocated to satisfy those demands appropriately. If the government or banks distort, confuse or mislead investors and market participants by not permitting the price mechanism to work appropriately, unsustainable malinvestment will be the inevitable result.

As I’ve explained in a recent Forbes piece:

When central banks set interest rates and hold them at low levels in order to create an economic boom after a recession (as our Federal Reserve does), they interfere with the organic functioning of the economy and financial markets, which has serious consequences including the creation of distortions and imbalances. By holding interest rates at artificially low levels, the Fed creates “false signals” that encourage the undertaking of businesses and other endeavors that would not be profitable or viable in a normal interest rate environment.

The businesses or other investments that are made due to artificial credit conditions are known as “malinvestments” and typically fail once interest rates rise to normal levels again. Some examples of malinvestments are dot-com companies in the late-1990s tech bubble, failed housing developments during the mid-2000s U.S. housing bubble, and unfinished skyscrapers in Dubai and other emerging markets after the global financial crisis.

The chart below shows how recessions, financial crises, and bubble bursts have occurred after historic interest rate hike cycles:

Fed Funds Rate

I believe that rising interest rates and the overall tightening monetary environment will lead to the popping of today’s stock market bubble, which will then spill over into the tech startup bubble.

Please watch my recent presentation about the U.S. stock market bubble to learn more:

If you have any questions about anything I wrote in this piece or would like to learn how Clarity Financial can help you preserve and grow your wealth, please contact me here.

Throwing Money Into Tech Startups Will End In Tears

The tech startup boom has been one of the most important and visible economic “growth engines” of the past half-decade. The boom was spurred, in large part, by the success and excitement over Facebook, Uber, Airbnb, and similar companies, which led to a widespread search for the “Next Facebook” or billion dollar “unicorn” company. Unfortunately, the tech startup boom has devolved into a dangerous bubble as a result of record low interest rates and the trillions of dollars worth of liquidity that is sloshing around the globe as a result of central bank quantitative easing (QE) programs.

As an Austrian economist, I believe that central bank manipulation of borrowing costs (typically by holding interest rates too low) creates false signals or “fool’s gold” business and economic booms that trick investors into jumping into “hot” trends, only to lose their shirts when borrowing costs are inevitably increased again. These bad investments are called malinvestments, and occur largely as a result of central bank market distortions rather than organic market forces. I believe that a very high proportion of today’s tech startups will prove to be malinvestments when the current boom turns into a bust.

A recent Wall Street Journal article describes the latest phase of the startup bubble quite well –

SoftBank’s Billions Spur Global Race to Pour Money Into Startups

Silicon Valley Venture Capital Chart

The Silicon Valley money machine is once again in high gear, thanks largely to SoftBank. The conglomerate is injecting billions of dollars into tech, in turn causing deep-pocketed global investors—and some U.S. venture firms—to arm up in response. A record level of late-stage money is flooding in, threatening to keep some startups out of the public markets even longer while heightening concerns that the sector is overvalued.

In recent months, hotly contested companies like ride-hailing service Lyft Inc. and dog-walking app Wag Labs Inc. have received hundreds of millions of dollars more than they sought. Bidding wars are re-emerging, and some once-staid foreign investors are expanding U.S. offices and ditching their ties and suits to court talented entrepreneurs.

“The top companies have as much heat around them as ever and continue to get bid up,” said John Locke, who runs late-stage investing for venture-capital firm Accel Partners.

Also:

The big-check bug has spread to U.S. venture-capital firm Sequoia Capital, which is in the process of raising up to $13 billion, including an $8 billion fund for late-stage companies, the largest ever for a U.S. venture-capital firm.

Sequoia was previously content with smaller sums; its largest fund to date is $2 billion. But it made the decision last year to go bigger, seeing an opening to keep investing in companies as they stay private longer and grow larger.

This flood of private investment has heightened concerns it will create a shaky foundation for startups. When money rushes into Silicon Valley, startups historically have overspent by advancing into expensive new markets or battling with competitors in price wars.

“We’re encouraging the excessive use of capital,” Bill Gurley, a partner at Benchmark, said of venture capitalists at a February tech conference. “We’re all doing it because it’s the game on the field.”

Softbank, a Japanese conglomerate, announced in October that it was planning to invest as much as $880 billion into tech startups. At the time of that announcement, I recoiled in horror at the idea of companies “throwing” money into tech startups just because it was a hot, heavily hyped sector:

tweet4

tweet5

Sound, long-term business decisions are not made by picking an arbitrary dollar or yen figure and throwing it into a hot sector. This behavior is the hallmark of a liquidity bubble in which there is too much cash clamoring into unprofitable investments. Throwing ever-increasing amounts of cash at unprofitable startups won’t make them profitable – it’s just “throwing good money after bad.” While this is common sense, many business leaders aren’t seeing the obvious because they’re completely drunk on the startup bubble euphoria. I have no doubt that Japan’s Abenomics stimulus plan (in which over $4 trillion worth of new Japanese yen was printed) has played an important role in encouraging Softbank to jump headlong into the tech startup bubble with gobs of cash.

Thanks to the tech sector hype and high tech stock valuations, VCs are looking to cash in on their tech startup investments by going public, just like during the late-1990s Dot-com bubble –

Silicon Valley Venture Capitalists Prepare for an I.P.O. Wave

 Investors, bankers and analysts said they expected a wave of initial public offerings to bring some of the most highly valued and recognizable start-ups to the public market over the next 18 to 24 months — and billions of dollars in returns to their executives and investors. The potential bonanza would follow years of waiting as a few dozen companies amassed valuations without precedent in the private market.

Already, 2018 has gotten off to a fast start. Two of the biggest start-ups still sitting on the sidelines — Dropbox, an online file storage company, and Spotify, the streaming music service based in Sweden — successfully went public over the past month. Tech I.P.O.s have already raised more than $7 billion this year — more than all of 2015 and 2016, and more than half the $13 billion they raised last year, according to the market-data firm Dealogic.

While the mainstream financial world sees the current tech startup boom as a legitimate technology revolution, I see it as a gigantic, liquidity-fueled malinvestment bubble. As the Fed and other central banks remove liquidity as the economic cycle matures, the stock market bubble will burst, which will spill over into tech startups. When the tech startup bubble pops in earnest, I expect thousands, if not tens of thousands, of startups to fold. While the world should have learned from the Dot-com bubble, today’s tech startup bubble proves that we didn’t, so we are doomed to repeat the lesson.

Please follow or add me on TwitterFacebook, and LinkedIn to stay informed about the most important trading and bubble news as well as my related commentary.