Comparing past economic environments and investment markets to today is never easy and can be fraught with risk. Rarely does history repeat itself exactly but it does often rhyme. Examining today’s economy and investment markets versus the ones leading up to and through the technology bubble has received its fair share of press. During the last few months of 2020 and rolling forward into 2021, those of us within RGT who were actively investing twenty years ago have started to point out some similarities between the two periods, despite the two decades of separation. Nevertheless, there are important differences worth noting, which likely means history won’t exactly repeat though it may provide some valuable clues on how to position portfolios and avoid certain risks going forward.
To fully answer this question, let’s first examine some basic economic and business data between the two periods:
Major differences between the two time periods:
- Interest rates were at much higher levels back then and were well above the inflation rate
- Inflation itself ran at twice the level it runs today
- Economic growth was increasing at almost twice the rate it is today
- Monetary policy, while initially easy during early 1999, tightened through the middle of 2000. Today, the U.S. has adopted an extraordinarily loose monetary stance while enacting record fiscal stimulus.
Additional key differences not highlighted in the table:
- The economy twenty years ago did not enter recession until 2002, two years after the bursting of the technology bubble. 2020 saw a sudden and deep economic recession in the first half of 2020 as the pandemic forced the shutdown of the global economy, quickly giving way to a strong bounce back as economies around the globe re-opened.
- Passive, ETF, and quantitative investing are much more prevalent today than during 1999-2000
- While the late 1990s gave rise to the internet, the speed of information (and misinformation) and the rise of social media have accelerated exponentially
A few observations regarding the similarities:
- Market leadership concentrated in a narrow basket of sectors and securities. Featuring prominently in both periods were technology, high growth, and so called “story” stocks
- Market indices traded at very high valuation levels measured against history – price to earnings multiples and price to sales multiples stand out in particular
- Retail investors were important drivers in the movement of security prices, and many utilized short term trading strategies and derivatives to enhance their buying power
- Value stocks and cyclical industries lagged for years
- Margin debt on marketable securities exploded as markets continued to hit record levels
- Venture capital, private equity, other special-purpose vehicles provided liquidity and momentum to the most popular investment strategies
The specific equity offerings which have been floated during the two periods provide an interesting comparison and may help investors avoid repeating some of the mistakes of the past.
Three 1990’s Tech companies offered to the public which had questionable business prospects during the boom:
- Broadcast.com started in 1989 by Cameron Jaeb and through his girlfriend, Cameron was introduced to Todd Wagner and Mark Cuban, who took control of the company in order to initially receive radio broadcasts of the Indiana University basketball games online. In 1998, the company was renamed Broadcast.com, went public, soared 250% on the first day of trading and in 1999, Yahoo bought it for over $5 billion. Mark Cuban became a billionaire at that time and the original founder, Jaeb, received approximately $50 mill upon the acquisition.
- Pets.com started in 1998 with partial venture capital funding from Amazon. This company had some memorable advertisements, including the sock puppet, paying $2.1 mill for a Super Bowl commercial in 2000. The company tried to build a business model by providing heavy products such as dog food at a discount with free shipping but ultimately didn’t lead to more profitable purchases. Pets.com went public in early 2000 and by the end of 2000, most of its employees had been terminated. It was liquidated about one year after running the Super Bowl ad.
- Look Smart was a search advertising, online media technology company. This company started in Australia, funded 80% by Reader’s Digest. By 1999, there were 500 employees and it had negotiated an agreement with Microsoft to provide online services. In August 1999, Look Smart went public at a $1 bill valuation, and the stock traded up to a point where the company was worth $2.5 billion. In early 2000, the company had a sponsorship arrangement with the IOC for the next Olympic games. Many years later after various acquisitions/divestitures, Look Smart had a market cap of $3.6 mill with some meager ongoing business operation
In today’s more recent market cycle of 2020-2021, there were 494 IPOs during 2020, per FactSet, which is a record in one year, up over 100% as compared to 2019. Included in the 2020 offerings are Select Quote, Vroom, GoodRx, McAfee, DoorDash & Airbnb. While not a recent IPO, Bitcoin has participated in the speculative fervor and recently traded over $58,000 per coin, up from $10,000 as recently as this past September.
Many of the companies which have been successful in the last few years, such as Amazon, Netflix, Google & Facebook are cash flow producing business models which continue to grow as opposed to many of the best-performing stocks during the tech boom/bust which didn’t have significant net cash inflows. Tesla is a good example of today’s popular companies, which combine new technologies with wild investor speculation on its future business success.
Perhaps no gimmick better encapsulates the current environment than the special purpose acquisition company, or “SPAC” (pronounced “spack”). SPACs are also referred to as “blank check companies.” At a basic level, they are shell companies that sell equity via a traditional IPO process – except there is no underlying business. The SPAC sponsors then utilize the cash raised to acquire a yet-to-be-identified business, usually within two years of IPO. Typically, the acquired companies are private but upon acquisition by the SPAC become publicly traded, resulting in an efficient (and lucrative for the sponsor) means of taking a company public. SPAC popularity has exploded in recent years – 248 went public in 2020, which surpassed the prior record of 66 SPACs from 2007. 2020’s record may only last a few months, however, as 160 SPACs have already gone public in 2021 through February 22. It is a blind pool of sorts. A recent example of a private company acquired by a SPAC was described in the Wall Street Journal as a company planning to develop an electric vertical takeoff and landing vehicle, or eVTOL, a four-person flying machine for up to 60 miles. Great for urban commuting! As we sometimes say around RGT, what could go wrong? (hint – search YouTube for VTOLs)
Lessons learned from the technology bubble:
- Premium valuations don’t usually last forever unless supported by consistently strong earnings and growing free cash flows
- Maintaining proper diversification in broader asset classes, which are out of favor for long periods, is critical to trying to reduce risk and volatility
- Market cycles and economic ups and downs are unpredictable and can change at any time due to unexpected reasons including unusual, “black swan” events
- Fixed income and alternative investments provide a balanced portfolio which seeks to reduce volatility during inevitable recessions and market turmoil
- Speculative investment activity, or market bubbles, often precede market peaks. Yet these bubbles are very difficult to see in real-time.
- The propensity to chase investments which have increased in value and re-invest in others which have been out of favor is difficult to execute. Undervalued strategies are more obvious retrospectively.
To reinforce the last point, one factor that hasn’t changed throughout history is human nature. Most market participants are hard-wired towards fear at market bottoms and greed at market tops. Thus, we are prone to make significant errors in judgment at precisely the worst time. Even if two time periods are not exactly the same, learning from events of the past, such as the technology bubble, and understanding our natural behavioral biases can help investors make sound decisions.
Thank you for your continuing support. We are available for questions or further discussion on these topics.