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And what’s similar to the dotcom bubble?
What’s similar is the insane valuation of some stocks in the tech world. Just look at the so-called group of FANG stocks: Facebook (FB 169.62 0.61%), Amazon (AMZN 987.58 0.07%), Netflix (NFLX 180.27 0.58%) and Google (GOOGL 945.79 0.58%). The cheapest of those stocks is Google with a P/E ratio of more than 30. But Google isn’t growing anywhere near that rate. Then you look at Amazon which trades at 200 times earnings. In the case of Netflix the valuation is even higher albeit the company actually burns an enormous amount of cash. So you have the same kinds of crazy valuations today that you had in the late nineties.
What’s more, big tech caps like Apple, Google and Facebook are carrying the whole stock market. How healthy is that?
This tells me it’s a very narrow market. When everyone is piling into a small number of stocks and the breadth of the market starts to the deteriorate like this it’s oftentimes a red flag before the market declines. We’ve seen that before. The other thing that’s causing this great concentration into the largest tech stocks is the ETF phenomenon.
What do you mean by that?
Many investors got burned badly during the turmoil in 2000 and then again in 2007/08. Because of that, they gave up on active money managers and went into ETFs. That’s why you have this huge stream of money out of active managers into passive investments and into ETFs. But the problem is that all the ETFs are investing in the same stocks. So the more money that goes into ETFs the more money goes into stocks like Apple, Amazon and Facebook. That lifts these stocks further up and they attract even more ETF money. That’s the cause for this pyramid effect which is very dangerous.
David Einhorn’s Greenlight had a strong fourth quarter; Gains on Neubase Therapeutics [Q4 Letter]
David Einhorn's Greenlight Capital was up 5.2% in 2020, underperforming the S&P 500's 18.4% return. For the fourth quarter, the fund was up 25%, which was its best quarterly result ever. Longs contributed 42% during the fourth quarter, while shorts detracted 15% and macro detracted 1%. Q4 2020 hedge fund letters, conferences and more Growth Read More
Why is this so dangerous?
Despite all the money printing, central banks haven’t outlawed the business cycle and they haven’t outlawed recessions. The bull market and the economic expansion in the US are already very old. So what’s going to happen when the selling occurs? One problem is that ETFs don’t hold any cash and when the market starts to fall, we are going to see huge outflows. There is no cash cushion because there will be no buying from ETFs. So everything is set up for a reversal: You have tremendous over valuations in these stocks and the looming possibility that all of a sudden the floor is falling out from under the market. At the same time you have the Fed and other central banks trying to “normalize” monetary policy by either raising interest rates or by pulling back on their balance sheet. So it’s basically tick, tick, tick and the only question is when the bomb is going off.
What’s going to happen when the big bang comes?
History shows that all these tech stocks will lose a lot. Microsoft (MSFT 72.68 0.73%) and Google are probably the ones which would hold up best but the most vulnerable ones are those which have to highest valuations. For instance, as great as a company Amazon is, it got clobbered in 2008. The stock lost 65% of its value in just three to four months. That could happen again and Amazon would still be trading at a P/E ratio of almost 70 and therefore would still be tremendously overpriced. A stock like Tesla could even lose 95% or 100% as it happened to those kinds of companies in 2000/02 that don’t make any money – and I don’t know about Apple.
Apple’s stock just got another boost after the company quelled some concerns about potential delays regarding the launch of its 10th-anniversary iPhone.
Some people – I call them Appleholics – will buy anything new from Apple. If Apple brought out a dishwasher they would buy it. So if Apple brings out another iPhone they are going to buy it no matter what, even if it has no new features. That will give the company a bump in sales at the end of this year and into next year. But then what happens next?
So far, investors seem quite optimistic.
The vast majority of Apple’s profits comes from one product and that’s the iPhone. But in most parts of the world, the market for smartphones is saturated now. So the problem with Apple is what do they do for an encore after the iPhone upgrade cycle peaks early next year? It’s hard to justify the more than $800 billion market cap that Apple’s stock currently carries when the only new thing that Apple has built in the past five and a half years since Steve Job’s death is its swanky $5 billion new headquarters. So because of the new iPhone generation you are going to get an upgrade cycle that will last a few quarters. But then it’s over and if that’s the case the market will anticipate it and investors will be exiting stage left since it will be clear to everyone that there isn’t anything else there.
Are there any safe spots in the tech sector at all?
Semiconductor equipment makers. They are benefiting from an increase in general spending among their traditional customers. Additionally, there is a huge push by China to establish its own domestic semiconductor industry. That’s very bad news for the western semiconductor manufacturers, especially for memory chips makers like Western Digital and Micron (MU 27.92 0.32%) Technology because you have this huge Chinese players which are backed by the government. It will be worse than when Japan and Taiwan came into the market. But the point is that there is a lot of business coming to the way of semiconductor equipment manufacturers over the next years. Some of the best companies in that business are Applied Materials and ASM International. But then again, you want to be cautious. It’s a dangerous moment in the stock market right now and nothing goes up when things go down.
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