-Caveat Lector- <A HREF="http://www.ctrl.org/"> </A> -Cui Bono?- from: http://www.aci.net/kalliste/ Click Here: <A HREF="http://www.aci.net/kalliste/">The Home Page of J. Orlin Grabbe</A> ----- Irrational Exurberance Is the Technology Bubble Bursting? Nah. It's only a correction. Trust me. Buy Microsoft. THE wild ride in the world’s stockmarkets grows ever wilder. Time and again, plunging prices have caused investors to ask if this is the crash, only for the market to turn around. Yet behind this volatility, one trend is clear: enthusiasm for technology stocks seems to be waning. In the past six weeks, the Dow Jones Industrial Average, dominated by old-economy firms, has crept higher; but Nasdaq, stuffed full of technology stocks, has fallen sharply. On April 4th, it closed 18% down from its record high on March 10th (though it is still well up since the middle of last year). At one stage on April 4th it had fallen by 14% on the day. Typically, it then rose on April 5th. The disillusionment with tech stocks has been even more pronounced elsewhere in the world, particularly in markets such as Bombay and Seoul. In Japan, Softbank and Hikari Tsushin have hit downward trading limits most days in the past week. The London Stock Exchange supplied the perfect metaphor for the times by failing to open for most of April 5th because of technical glitches. The swings in the main indices have been dramatic enough, but the behaviour of individual shares has been even wilder. During the morning of April 4th JDS Uniphase, a maker of parts for the next generation of optical fibres, saw its market capitalisation bounce between $58 billion and $82 billion. In March it had been valued at $109 billion. Many shares are now more volatile than they were in the 1987 stockmarket crash, according to Lawrence McMillan, an independent options analyst. Why are previously high-flying equities suddenly so out of favour? Rising short-term interest rates may be one culprit. With little or no debt, many analysts had assumed that tech stocks were immune to interest rates. Yet higher rates mean that investors face a higher cost of capital, and they should also raise the discount rate on future earnings. Investors may also have become better at valuing such shares. Rather than buying en bloc, they may now be going only for those that have a reasonable expectation of profits. Old-economy companies are also making a fist of embracing the Internet, increasing their appeal and reducing the lure of new-economy firms that had hoped to replace them. Increased volatility may also have taken its toll on investors’ appetite for risk. And individual investors who have borrowed to buy shares are experiencing the pain of meeting margin calls. Nor is there a traditional flock of investors who want to buy cheap shares—so-called “value investors”—and who have traditionally provided a floor under prices if they fall too far. Such fund managers have become unpopular laggards during the bull market: witness the recent retirement of Julian Robertson, who ran Tiger, a once-big hedge fund, and the travails of Warren Buffett, of Berkshire Hathaway. Value investors have lost ground to a school of investing based on how companies will do relative to expectations in the coming quarter, and to another fashionable group of large investors known as momentum investors, whose bets are made solely on the direction in which a market is heading. Add these together and you have the elements in place for a panic. The catalyst this week came on April 4th when a judge ruled in favour of the Justice Department’s antitrust lawsuit against Microsoft. The shares of one of America’s biggest firms dropped sharply. Although this hurt the Dow, to which Microsoft has recently been admitted, its problems were more than made up for by gains in old-economy companies. But Nasdaq contains many big technology firms as well as Microsoft, including Cisco, Intel, and Oracle. Shares in most of these firms slumped too. Perhaps, in part, because of fears of antitrust suits against them. Microsoft has been the quintessential growth stock since the mid-1980s because it has managed to maintain its huge market share and profit margins in a fast-growing market. For investors that has been a splendid money-making opportunity; to a judge it might smack of monopoly profits. Although Microsoft may be more truculent than most, it is not unique in having characteristics that could attract an antitrust investigation: high market share and big margins. Look across the technology landscape at leaders such as Intel (chips), Oracle (database management), Cisco (routers), and Sun Microsystems (servers). All have a dominant market share that might seem monopolistic. This is not a coincidence. New-economy companies often have huge costs for development, but low costs for every extra customer. The best products cost no more to buy and, given scale, cost less to make than those of competitors. Result: winner takes all. Yet any regulatory threat to that dominance could remove one of the last props from tech firms’ exorbitant valuations. That thinking seems to have been at work this week. For those of a historical bent, it has all happened before, says Richard Sylla, a professor at the Stern School of Business. In 1962 the market lost almost a third of its value after President Kennedy implicitly threatened antitrust action in response to price hikes by the steel industry (prompting the response from US Steel that “higher steel prices cause inflation like wet streets cause rain”). In 1903, in the “rich man’s panic”, losses were even steeper following Theodore Roosevelt’s trustbusting attacks on industry. How low can it go? Even without further antitrust action, technology stocks could have further to fall, because their valuations have become so stretched. How stretched is difficult to determine, because traditional valuation methods are not good at coping with fast-growing companies—especially if they have neither dividends nor profits. For what it is worth, however, Nasdaq trades on a price/earnings ratio of 62 times trailing earnings. Between 1973 and 1995, its p/e never exceeded 21. An even scarier picture is painted by an analysis done by Grantham Mayo Van Otterloo, a fund-management firm. This uses a model that reflects the unusual recent profitability of American companies, especially technology firms. In particular, the model picks up the growth posted by Microsoft and its like and is careful to expect only a gentle reversion to average returns. An intriguing result is that big, established technology firms are less overvalued than the rest of the market and did not seem expensive until 18 months ago. But the bigger picture is less happy. Until 1995, the Nasdaq was at “fair value”, but no longer. Fair value, according to the model, is some 70% below current levels. Worse still, says Jeremy Grantham, a partner in the firm, the market is unlikely to stop falling when it hits fair value. “If it stopped there, it would be the first time in history. That’s never happened at the end of any bubble.” The consequences of a big fall would extend far beyond a dip in the price of Silicon Valley property and sales of luxury cars. The biggest effect would be felt in the new-issue market. A number of deals are already being quietly held back. Nobody wants to be first to pull the plug, because that would be an admission of weakness. But once one does, expect others to follow. A month ago, it was rare for a new issue to trade below its offer price. Now, over 40% do. A dozen offerings from the past year are almost worthless. For firms that rely heavily on the promise of lucrative stock options to tempt the best staff, this might prove terminal. Typically, America’s new mercenaries join a company within a couple of months of a hot flotation, says Matthew Cowan of Bowman Capital Management, a fund-management firm. If the shares then trade below the offer price, many will leave just as quickly, especially since their options will be struck on the price prevailing when they joined. For the myriad new firms with no cash, the stockmarket has become a crucial, but entirely unpredictable, means of rewarding employees. They may still survive. For the truth is that nobody knows if this is the end of the tech bubble. Reason suggests that tech stocks should go down. But if reason had much to do with share prices, they would never have risen to their current heights. Wall Street’s finest will do all they can to get the bandwagon rolling again. American investors still have the equity faith: tens of billions of dollars of retirement money are even now heading for the market. Many investors are preparing to react, as they have so profitably to previous market downturns, by “buying the dips”. Alan Greenspan, the Fed chairman, may feel less need to raise interest rates now that share prices show some sign of heeding earlier warnings. And, lest anyone forget, it is presidential election year—and Bill Clinton will be keen to get Vice-president Al Gore into the White House. A booming stockmarket would help in that regard. On April 6th, Mr Clinton hosted a conference on the impact of new technology on the American economy, featuring such luminaries as Mr Greenspan, Bill Gates and Abby Joseph Cohen, a stockmarket guru. Having seen the impact on share prices of the Microsoft judgment, Mr Clinton might even want to call off the antitrust bloodhounds. As a politician, he has usually favoured votes over principles. The Economist, April 8-14, 2000 ----- Aloha, He'Ping, Om, Shalom, Salaam. Em Hotep, Peace Be, All My Relations. Omnia Bona Bonis, Adieu, Adios, Aloha. Amen. Roads End <A HREF="http://www.ctrl.org/">www.ctrl.org</A> DECLARATION & DISCLAIMER ========== CTRL is a discussion & informational exchange list. Proselytizing propagandic screeds are not allowed. Substance—not soap-boxing! These are sordid matters and 'conspiracy theory'—with its many half-truths, misdirections and outright frauds—is used politically by different groups with major and minor effects spread throughout the spectrum of time and thought. That being said, CTRL gives no endorsement to the validity of posts, and always suggests to readers; be wary of what you read. CTRL gives no credence to Holocaust denial and nazi's need not apply. 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