Bubble watch #8
Following on from the very bearish view of future returns from technology stocks held and published by Seth Klarman at the beginning of the year – he noted Amazon.com was trading at 515 times earnings, Netflix at 181 times, Tesla Motors at 279 times, and LinkedIn at 145 times – we thought you might be interested in similarly bearish views of the US hedge fund team at Greenlight Capital lead by David Einhorn (pictured).
A highlight from the First Quarter Newsletter published on April 22, on page 3 is this:
“In our view, the current bubble is an echo of the previous tech bubble, but with fewer large capitalisation stocks and much less public enthusiasm. Some indications that we are pretty far along:
- The rejection of conventional valuation methods;
- Short-sellers forced to cover due to intolerable mark-to-market losses; and
- Huge first day IPO pops for companies that have done little more than use the right buzzwords and attract the right venture capital.
And once again, certain “cool kid” companies and the cheerleading analysts are pretending that compensation paid in equity isn’t an expense because it is ‘non-cash’. Would these companies be able to retain their highly talented workforces if they stopped doling out large amounts of equity? If you are trying to determine the creditworthiness of these ventures, it might make sense to back out non-cash expenses. But if you are an equity holder trying to value the businesses as a multiple of profits, how can you ignore the real cost of future dilution that comes from paying the employees in stock?”
“…In the post-bubble period, people stopped talking about valuing companies based on eyeballs (average monthly users), total addressable market (TAM), or price-to-sales. When the re-rating occurred, the profitable former high-fliers again traded based on P/E ratios, and the unprofitable ones traded as a multiple of cash on the balance sheet. Our criteria for selecting stocks of the bubble basket is that we estimate there to be at least 90 per cent downside for each stock if and when the market reapplies traditional valuations to these stocks.”
Roger Montgomery is the Founder and Chairman of Montgomery Investment Management. Roger has over three decades of experience in funds management and related activities, including equities analysis, equity and derivatives strategy, trading and stockbroking. Prior to establishing Montgomery, Roger held positions at Ord Minnett Jardine Fleming, BT (Australia) Limited and Merrill Lynch.
This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.
Andrew Legget
:
I can’t help but think that the invention of non-conventional valuation techniques is linked into the wider efficient market theory.
If prices are trading at enormous conventional multiples then there must be something else or some other form of information which is making “rational” people invest at these multiples as bubbles don’t exist in EMH land, at least not until after the fact and you know that one existed.
Instead of thinking that the market is just getting a bit silly, we are instead forced to try and explain it, so we run tests to find what could be the information causing it to occur and we come up with something like those mentioned in your article.
I am really looking forward ot seeing what happens to the eventual Ali baba float. If there is one IPO that has the makings of a crazy listing it is one that includes the words Online and China in the same sentence.
Once again Roger, thanks for sharing the insights.
Roger Montgomery
:
You have made another excellent point ANdrew. Interesting the theorists cannot see that argument.