Jeff Saut: Tech Mania Nothing New

What I have tried to show is that the information/communication revolution has been taking place over thousands of years. Gutenberg’s invention, however, was the linchpin that accelerated the information transfer process, bringing about the Age of Enlightenment. This led to one scientific development after another – communications, the telegraph, the telephone, the radio, fiber optics, the fax, cell phones,computers, etc.

All of these technological inflection points were accompanied by boom/bust cycles in their respective stock markets. Radio Corporation of America (RCA) is a great example, as it rose from approximately $10 per share in 1927 to a “mania high” of $114 per share in 1929, only to collapse to $2.50 per share by 1932. We can document that radios were as popular in the 1920s as computers are today.

RCA was a true high-tech stock in its era, just like many of today’s Internet issues. What one shouldn't forget is that every successful technology eventually becomes a commodity type of product. Telephones, radios, televisions, etc. were all high-tech products that eventually became commodities.

In each case, investors overlooked the threats caused by the entry of new competitors and, consequently, obsolescence. As in past technology “booms,” investors tend to underestimate competition from new entrees and better products.

Furthermore, Wall Street tends to underestimate the impact of excess capacity, falling product prices and the subsequent profit squeeze. Even the legendary Bill Gates has suggested that only one out of ten Internet companies will survive the test of time.

With many of the major mutual funds, driven by the momentum “performance derby,” currently loaded with these Internet companies, what happens if the “worm turns” and they decide to sell ‘em?

So, where do we go from here? Well, a mania is a mania is a mania and when it will end is anyone’s guess. In the 1980 oil stock mania, oil was allegedly on its way to $100 per barrel, according to the gurus of the day. Similarly, the Japanese market (Nikkei) in 1989 was “cheap” at 39000, according to many market mavens right before it lost 50% of its value.

Manias tend to work both ways. On the one hand they create a demand for the product, but on the other hand they tend to reduce the length of the product cycle. Consider this: A century ago it might have taken years for a new entree to enter a market where attractive profit opportunities existed due to poor communications. Today, with instant communication, the situation's different.

The flood of new Internet IPOs is a testament to this. Also remember that the longer a mania lasts, the lower the quality of the new issues become. The fundamental differences between past high-tech manias and now is that previously the U.S. stock market was relatively inexpensive. Currently, that's not the case. The DJIA has roughly quintupled since the low in 1990, while the NASDAQ's up nearly tenfold. Additionally, technology, particularly Internet stocks, has outperformed the market by a wide margin, as it became the “only game in town.” In the past, such widespread popularity of a group in an extended market has seldom paid off.

Is it really different this time? I'm skeptical. Consistent with this, I advise participants to protect their profits in many of the Internet issues. With these thoughts in mind, I wish you a momentous new millennium.

The call for this week: This morning, I reprise my comments of nearly six years ago because just as I was cautious back then, I'm currently short to intermediately bullish. Longer term, I remain cautious as I honor the Dow Theory “sell signal” of November 21, 2007. In the near term, however, the sentiment is about as negative as it was bullishly-skewed six years ago! Moreover, as the brilliant GaveKal organization notes, “The four great momentum trades at the moment are: 1) long U.S. Treasuries; 2) long commodities (including gold); 3) short credit [financials]; and 4) short the U.S. dollar/long the Euro. All of these trades are getting rather crowded, and, in our view, the fundamentals argue that they are due for a turnaround.” Plainly, I agree!

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