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Some investors don’t believe it’s possible that the stock market can be in a bubble like the 1990s tech boom because they were told it was a one time event that could never happen again. However, there are bubbles in every cycle. There was the “tronics” bubble in the 1960s, the nifty fifty bubble in the 1970s, the biotech bubble in the 1980s, the tech bubble in the 1990s, and the housing bubble in the 2000s.
Plus, we had a mini marijuana stock bubble from 2018-19 and the fracking boom in the 2010s. Bubbles are the norm, not an exception. Furthermore, low rates don’t mean bubbles will last forever. The bubble in software stocks (SaaS), electric vehicle stocks & other renewables stocks, and the bubble in online shopping stocks all can come to an end without the Fed raising rates. Bulls claim that this cycle is different than the tech boom of the 1990s because firms are now profitable. Firstly, many firms were profitable in the 1990s too and many firms aren’t profitable now. The EV stocks mostly aren’t profitable. Plenty of renewable and software stocks are losing money as well.
It’s amazing how investors who weren’t following stocks 22 years ago can claim they would have easily avoided Yahoo which was one of the tech darlings in the 1990s. They wouldn’t have avoided it. As you can see from the chart above, Yahoo stock rose 517% in 1997 and its sales were up 242%. In 1998 Yahoo stock rose 584% as its sales tripled and its profits rose from a penny to 13 cents. In mid-May of 1999, Yahoo had a PE ratio of 1,062. It was added to the S&P 500 in December 1999. It fell over 90% in the 3 years after it was added.
A venture capitalist in 1999 stated, “these valuations are such a distraction” when building internet businesses. The idea was that management teams should focus on the business and not worry about the stock. That’s sound advice, but it wasn’t possible as firms relied on hoopla from Wall Street to grow. Firms would do IPOs with small floats to get a 300% to 400% pop on the first day of trading to generate Wall Street interest. That doesn’t sound like avoidance; it’s fanning the flames of a fire. One trader in 1999 stated, “I believe in the new axiom: If you use it on Web Street, buy it on Wall Street.”
Buffett’s Last Laugh
Of course, the bubble ended in March 2000. The current bubble will end soon as well. The longer it goes on, the more damage it will do to the economy as it is similar to an out of control wildfire. After Warren Buffett was criticized for not participating in tech stocks in the 1990s, Buffett got the last laugh as he stated, “I told you so.” In 2001 he stated, “The fact is that a bubble market has allowed the creation of bubble companies, entities designed more with an eye to making money off investors rather than for them.”
Supply comes when demand is strong. We have seen it come via secondaries, SPACs, and IPOs this year. Timing the market becomes a basic lesson in supply and demand in that when stock supply overcomes demand, the bubble will end. Buffett is being criticized again for not owning tech outside of a large position in Apple.
As you can see from the chart below, Tesla has a higher market cap than Berkshire. Many Tesla bulls discuss whether Buffett or Musk has done more for the world. However, this isn’t a contest of who has the most impact or who is better for sustainability. It’s simply about profits. Berkshire Hathaway’s trailing 12 month EBIT is $51.11 billion and Tesla’s is $1.621 billion with the help of tax credits.
This bubble will pop like the last one and every other one. You don’t need to do that much research. When you see vertical stock charts, euphoria among retail traders, and sales growth without profits, there is a bubble. Guess if this quote was from 1999 or 2020. “When you can tell me where the money goes after it leaves stocks, I’ll get concerned. This is a runaway market. You can’t call the top.” We will tell you at the end of the article.
How Big Is The Bubble?
Some bulls will acknowledge that some SaaS, EV, and online retail stocks are overheated, but they contend a decline in the Nasdaq like the one from 2000-02 isn’t coming. Their argument is it’s not a systemic issue. That’s naïve because most of the biggest companies in the world are in these groups. Furthermore, growth stocks as a whole are trading at elevated levels. As you can see from the chart below, the price to sales ratio of U.S. growth stocks peaked at a higher level than in 2000. This is as of the end of September. The ratio would be higher if we included data up to December in which the Nasdaq 100 went on an 11 day winning streak.
The fact that there is so much pushback on this being a growth bubble means it might be one. Once you see these nosebleed valuations and vertical charts along with the criticism of Warren Buffett, you know there is trouble ahead. High valuations mean low long term returns even if there isn’t a sharp decline. However, we have never seen a bubble end with a plateau.
It’s surprising that in a year with a global pandemic and a recession that the biggest story on Wall Street is the level of speculation. You must read about Yahoo in the 1990s to understand why the growth bubble won’t be sustained. Investors were right about the internet being important, but their favorite stocks still fell because they were bubbles. The same thing will happen to the hottest industries now as many of the most popular companies will disappear. We reached the end of the economic cycle, but we didn’t reach the end of the speculation cycle yet. That will come soon.
The quote was from 2020.
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