>X-eGroups-From: "M A Jones" <[EMAIL PROTECTED]> >From: "M A Jones" <[EMAIL PROTECTED]> >Reply-To: [EMAIL PROTECTED] >Subject: [CrashList] "the trouble on Wall Street may be only just starting." >Status: > >"....These two propositions - that the world is changing at an unprecedented >rate and that shares can be valued by projecting stable growth in long-term >earnings - are in fundamental contradiction. ....." > >Anatole Kaletsky, Economic Review, The Times, 18.04.00 > >Fools rush in where sane investors fear to tread > > >Internet vertigo > > >IS THAT it then? Yesterday's correction in share prices around the world was >a very modest affair after all the fuss about the "dot-bomb explosion" >triggered by last week's plunge on Wall Street. It is true that many leading >computer technology, media and telecommunications shares (known collectively >as TMT, with appropriately explosive connotations) have fallen by half or >more from their recent peak values and are showing losses since the start of >this year. But most of these shares remain far above the levels from which >they took off on their stratospheric ascent. >Meanwhile, the "old economy" stocks outside the TMT sectors have resisted >the generalised pressure of investor anxiety. The broad market indices such >as the Dow Jones industrial average and the FTSE 100 are still within 10 per >cent of their record highs. Focusing more closely on the indices of non-TMT >shares produced by Datastream shows not only that old economy shares have >held up remarkably well in the last month. > >These indices also suggest, as discussed in this column two weeks ago, that >the valuations of old economy stocks are remarkably attractive, especially >in Britain. The bottom chart, a variant on the one published on this page >two weeks ago, shows how the valuation of the London market as a whole has >been distorted upwards by the TMT stocks and confirms that the earnings >yield of non-TMT stocks is today lower than at any time since 1983. > >There may be another encouraging implication for the non-TMT share from the >current turmoil on Wall Street. If losses on technology shares cause >American consumers to tighten their belts and American business to slow down >their investment spending, this could actually be helpful, since the >excessive growth of the US economy is now the greatest single threat to the >economic stability around the world. > >Returning to the technology shares, however, the question is whether the >long-awaited bursting of the Internet bubble has finally occurred? The only >honest answer is "time will tell". > >Abstracting from all the human interest stories about over-borrowed retail >investors and Internet zillionaires suddenly reduced to mere tens of >millions, the fact is that the Nasdaq index, which represents the >performance of "new economy" shares on Wall Street, is still 25 per cent >above the level of 2,800 which acted as a launch-pad for the last phase of >its trip to the moon. Anyone who was clever or lucky enough to invest in the >Nasdaq index a year before that, in October 1998, is still sitting on gains >of more than 100 per cent, even after the recent "collapse". For sceptics >who have spent the past two years pouring scorn on the "Internet bubble" it >is still far too early to claim vindication. > >As a fully signed-up member of this fraternity of Internet sceptics, I >certainly cannot claim the satisfaction of saying "I told you so". I started >arguing on this page back in January 1999 that most Internet companies would >end up "literally worthless". I then stuck my neck out even further in >January this year, predicting that even the strongest and best-managed >companies that currently dominate the enviable business of selling the >"picks and shovels" for the Internet gold rush - companies such as Cisco, >Oracle and Sun - would eventually decline by 50 to 70 per cent. So far these >predictions have not remotely come true. > >Indeed the TMT blue chips such as Oracle, Sun and Cisco, while they are 20 >to 25 per cent below their recent peaks, are all trading well above the >levels at which they started this year and they are worth between three and >five times what they were in early January 1999. Given that a company such >as Cisco is ten times the size of Amazon.com and 1,000 times as large as >lastminute.com, even at its peak, it will be these technology giants, rather >than the e-commerce minnows, that will determine the fate of the TMT sector >as a whole. > >Such comparisons suggest two diametrically opposite ways of looking at >recent events on Wall Street. It can be argued that what has happened so far >is no more than a pin-prick. The setbacks in the main stock market averages >have not been remotely sufficient to imply a long-term decline in technology >shares, to damage confidence in the new Internet economy or to reverse the >wealth effect that has powered consumer spending and investment, especially >in the US. > >The opposite possibility is that the trouble on Wall Street may be only just >starting. The very fact that the correction has so far been so tiny in >relation to the scale of the TMT boom, may imply that share prices still >have a very long way to fall. Indeed, this must be true if the arguments >about an Internet bubble have any merit at all. Financial bubbles do not end >with modest price corrections of 25 per cent or even 50 per cent. They end >with prices collapsing in an atmosphere of generalised panic and >recrimination among investors. If the wave of investor enthusiasm that swept >TMT companies was genuinely a financial bubble, then most of the pure >Internet companies will really end up "literally worthless", as I suggested >18 months ago, and even the best of the infrastructure companies will suffer >very sharp declines, as I predicted earlier this year. > >Which of these diametrically opposite positions will prove valid? Obviously, >I favour the second position and I have become slightly more confident in my >scepticism as a result of the recent events. There are, however, many >intelligent economic analysts who take the opposite point of view. They >believe that the economic possibilities of the new technologies are so >revolutionary and so enormous that the best of the companies that harness >and develop these technologies will continue growing almost without limit >for decades ahead. > >Cisco Systems, which has now decisively overtaken Microsoft to become the >world's most valuable company, may be worth a mind-boggling $450 billion. >Its shares may be selling for 150 times its annual profits, even after the >recent correction - an almost unheard of level for such a large company. But >many serious economists and financial analysts believe this to be a very >reasonable price to pay for the almost infinite growth potential that is >enjoyed by Cisco and other companies that specialise in Internet equipment. > >According to a recent study by HSBC Economics, Internet equipment companies >such as Cisco would have to increase their earnings per share by 23 per cent >in real terms for ten years running in order to justify their present >valuations. This is a daunting target in a global economy whose growth is >unlikely to exceed 4 per cent a year. But it is not impossible. HSBC points >out that for 12 years now, Microsoft has been able to achieve an annual >compound growth rate of 40 per cent. > >Only time will tell whether this kind of profits growth can be sustained for >decades ahead, especially in a competitive environment such as the Internet. >This is the fundamental question that has to be answered in deciding whether >the mania for Internet investment is indeed a speculative bubble. > >I believe that this question will be answered - and much more emphatically >than expected - by investors themselves. At some point investors will lose >confidence in the long-term outlook for even the best TMT companies because >of a fundamental economic contradiction in their financial models. > >On one hand, investors believe that the TMT industries are in a constant >state of flux, with technologies and market structures changing at >unprecedented rates. On the other hand, these same investors insist that the >astronomic valuations of the top technology companies are justified not by >the fairly modest present earnings but by the vast prospective earnings they >are expected to accumulate in the long-term future. > >These two propositions - that the world is changing at an unprecedented rate >and that shares can be valued by projecting stable growth in long-term >earnings - are in fundamental contradiction. The question is whether (or >when) investors in TMT stocks will recognise this logical flaw and start to >get seriously worried. > >Until recently this question was hardly worth posing. As long as the main >TMT stocks were all going up in tandem, investors saw no need to inquire too >closely about the logic of their valuation models. Valuations did not matter >as long as investment decisions were driven by momentum. This momentum >principle is sometimes described more colourfully as the "Greater Fool >theory" which asserts that any price is worth paying for a share, provided >some greater fool will step into the market to pay an even higher price >tomorrow. > >When momentum runs out or the Greater fools vanish from the market, >investors are forced to think more closely about the share prices they have >been paying. The most important question posed by the recent events on Wall >Street is whether this point has finally arrived. > > > > > >The Times 18.04.00 > >Mark Jones >http://www.egroups.com/group/CrashList > > >------------------------------------------------------------------------ >Good friends, school spirit, hair-dos you'd like to forget. >Classmates.com has them all. And with 4.4 million alumni already >registered, there's a good chance you'll find your friends here: >http://click.egroups.com/1/2885/3/_/_/_/956049563/ >------------------------------------------------------------------------ > >To unsubscribe from this group, send an email to: >[EMAIL PROTECTED] > > > __________________________________ KOMINFORM P.O. Box 66 00841 Helsinki - Finland +358-40-7177941, fax +358-9-7591081 e-mail [EMAIL PROTECTED] http://www.kominf.pp.fi ___________________________________ [EMAIL PROTECTED] Subscribe/unsubscribe messages mailto:[EMAIL PROTECTED] ___________________________________
