“Don’t write about this in the Daily Reckoning,” pleaded my host. (Honoring his request – I will get the facts even more messed up than I usually do.)
It was almost un-American. At last night’s Orioles- Braves game I barely saw a single play.
Instead, I was doing business that couldn’t wait. In a sign of the times, start-up tech and Internet companies are so desperately low on cash that they must make their pitches to investors wherever and whenever they can – even at the O’s stadium.
Without giving the details, the context is worth examining. It shows how people gain real knowledge in the real world – as opposed to what Hayek calls the ‘pretense of knowledge,’ which, so far, is the most ubiquitous new product of the Information Age.
The young men I met last night have exciting ideas. They have brains and energy. They have new technology…and the gumption to turn it into successful businesses. But their timing is unfortunate.
Had this been AD 1999 rather than AD 2000, they might have been sitting in the plush offices of Alex Brown a few blocks away – where, only a few years ago analysts, venture capitalists and investment bankers listened to a presentation by Bill Gates, explaining the business plan for a company few had heard of. Twenty-four people had been invited to the meeting – in which they were offered MSFT shares at pre-IPO prices. But only 15 showed up. The others thought they had better things to do.
Last night, the Bill Gates of the future, whose real name I am not at liberty to reveal, had to make his presentation to a group of hard-drinking, argumentative contrarians looking for a bargain.
Christopher Byron tells the story of how Salon.com went public on Bloomberg.com. The Internet fad du jour was “content.” Investors were willing to believe that good content on a website could generate enough eyeballs, which in turn would generate enough advertising revenue, to make money. People in the publishing business didn’t believe it was possible. But that didn’t stop the underwriter, W.R. Hambrecht & Co., from dumping this on the public at $10.50 a share almost exactly one year ago.
“For a brief and glorious moment,” Byron reports, “Salon.com touched an intraday high of $15.12, giving [it] a market value of $162 million, as all involved congratulated each other on their collective financial genius…while leaving for another day the annoying problem of what to do when the $24.9 million in IPO proceeds ran out.”
Well, now the proceeds are running out. Salon is firing people – including the writers who were supposed to provide the “content.” The stock is down more than 90 % from its high – and the principals are probably at another stadium on the other side of the country pitching their business plan – stripped down and much-more realistic – to an equally distracted and equally skeptical bunch of investors.
“I’m seeing dozens of these deals,” said a lawyer in our group, whom I will only identify as John Tilghman Dunbar of Venable, McGruder and Howard, 233 North Ave. Baltimore 21205…410 325 7788. Social Security number: 213 56 0985. Mother’s maiden name: Lucy. “These companies are re- structuring, re-financing, merging, disappearing – you name it.”
What went up like a Bastille Day rocket came down like Louis 16th’s head. The Information Age seemed to offer little knowledge or wisdom to guide investors. A company that was worth a billion dollars one day was thought to be worth less than 5% of that a few days later. The “efficient” market seemed to have no idea a stock should really be worth.
Broad.com was considered a $100 stock last December. By March, the market judged it worth $250. A month later, the collective wisdom of investors sent it back to $100. And now…guess what…it’s at $240 again.
There are only two sources of knowledge – as I pointed out a day or two ago. But investors ignored them both. New investors had no personal experience with booms and busts. Nor did they rely on the experience of others, embedded in the rules and customs of stock market investing. They didn’t know a P/E from a rhubarb pie. And they could care less.
Nor was logic much help. “[S]imple arithmetic,” says Byron, “didn’t stop …W.R. Hambrecht.” Why? “Fee-obsessed underwriters…couldn’t say no to seven-and eight-digit commissions. [They] set the merry-go-round whirling to create a market for deals that had crash and burn tattooed all over them.”
Freed from the arithmetic of reason (which is unreliable in any case) and the deaf to the voice of experience…investors, as well as investment pros, were left prey to the basest human emotions – fear and greed.
We have seen plenty of greed over the last few years. The fear is still ahead.
Baltimore, Maryland July 14, 2000
P.S. The excitement of the early stages of the Internet revolution has come and gone. Heads are beginning to roll. The Terror is next.
*** “Growth stocks are back in vogue,” said one analyst yesterday as the summer rally continued. He referred to the shift in enthusiasm from the Dow to the Nasdaq.
*** The Dow rose only 5.3 points. But the Nasdaq managed a 75-point increase.
*** As stocks went, so went bonds. The smart money seems to be taking advantage of the summer rally to “go away” from stocks, as George Soros put it.
*** There are two ways to rationalize today’s bullishness. Some bulls think Alan Greenspan is going to deliver the much-hoped for ‘soft landing’ – in which the economy drifts down and lands in the soft, warm sand of summer…right next to the bear’s beach blanket. No inflation. No recession. But the combination of rising stock prices and rising bonds (meaning, falling interest rates) makes the soft landing less likely. As long as investors believe in the ‘soft landing,’ it will never happen. Because as long as they anticipate continued good times, they continue spending, borrowing and driving up stock prices.
*** The other bullish argument is more daring. The Gov. of Maryland, for example, is going around making speeches in which he claims that the business cycle has been overcome – by technology-driven productivity gains and better financial management. This is the argument that undergirds the entire New Era delusion – that productivity gains offset the effects of inflation. Since ‘overheating’ no longer leads to inflation, there is no reason for the Fed to attempt to restrain the economy… and no need for cyclical downturns. *** Jim Davidson is grappling with this issue, too. Davidson: “I think it is meaningful that the ideas that are so much a part of the digital economy are much less susceptible to diminishing returns than tulip bulbs or railroad cars.”
*** Meanwhile, the WSJ reports today that “more companies are raising prices than at any time in the past five years,” and “import costs continue to climb due to higher oil prices.” Oil rose again yesterday – $1.15.
*** Richard Russell reports from San Diego that “a 10,000 square foot home in San Diego on 5.6 acres sold last week for $25 million cash, $5 million above the asking price and the most expensive home ever sold in San Diego County. In New York apartments and condos regularly go for $5 million and up. These are apartments that used to rent for $400 and $500 a month back in the ’30s and ’40s. New Yorkers are now paying fortunes for Central Park West apartments. Times change, but when I was a kid wealthy people wouldn’t consider living on the West Side – it was ‘the wrong side of town’ in those days. Now any side of town is the right side if you can even find an apartment under a million bucks.”
*** If spending need not be constrained in the private sector, there are even fewer inhibitions in the public one. “Gray Davis signed [California’s]$95 billion budget,” writes Doug Noland in Credit Bubble Bulletin. “This budget, reportedly, calls for a stunning 18% increase in spending over the current budget. According to local papers, the budget is “packed with pork.” From the SF Chronicle, quoting an assemblyman, “It’s completely out of control. The governor has become Santa Claus for every legislator with visions of boondoggles dancing in their heads.”
*** Jack ‘be nimble’ Welch did it again. The GE CEO announced earnings higher than expected. Guess how much higher. One penny, as usual. Isn’t it amazing that the world’s largest company, with operations all over the world, in hundreds of different currencies, all changing relative value on an hour-by-hour basis, can be so precise about how much it will make? The stock fell $1.50 yesterday…but Jack got a $7 million advance for a new book.
*** Investors cannot do arithmetic. Intel is now as big as GE. It has only $30 billion in revenue, but a market cap of $500 billion. The company saw an increase of operating income of only 2% in the last 27 months – so it could hardly be called a growth company. With no premium for growth, the company would have to have a profit margin of 140% of gross revenues in order to justify a standard p/e of 12. At a p/e of 20, its earnings would have to be 83% of its revenues.
*** Commentators are referring to recent market activity as “rotation” from one sector to another…or “Darwinian,” in which the strongest companies advance while the weaker ones fall behind. But in this kind of choppy market everyone loses…because meters are running. Interest has to be paid – and so do brokers, analysts, and fund managers.
*** “The head office realizes with uncharacteristic speed that ‘no new projects’ means good-bye to bonuses, executive jets and country club memberships.” Says Dan Ferris, describing the profit cycle for mining stocks. “When commodities prices begin rising – as they are right now – the ‘head office’ sends out a team to scoop up existing junior mining companies who are already in the ground. If you happen to own shares in the junior mining company… you can do very well – very quickly.” One of his picks in a global exploration and mining portfolio is up an annualized 152% in just 9 months.
*** Addison reports from Paris that Bastille Day celebrations are underway. A parade of tanks, missile carriers and other military hardware has been going up the rue de Rivoli, near our new office, all morning. Today is the day when the French recall the storming of the Bastille by a Paris mob, and the subsequent mass murder and expropriation of aristocrats and sentimental traditionalists.
*** I was called onto the field at Camden Yards and pawed by the Orioles’ mascot last night. This indignity was perpetrated before a crowd of thousands as I was given an autographed baseball to thank me for bringing more than 250 people to the game. The people were the employees, friends, and family of our publishing business in Baltimore. We enjoyed the game …even though the O’s lost.
*** The controversial John Rocker pitched, briefly, for Atlanta. When asked what he might do if he were booted out of baseball, Rocker replied that he might become a stockbroker.