January 28, 2021 Guy Carson



In March last year the world came to a standstill. Panic around the economy hit the highest level since 2008. The combined response from Central Banks and governments was unprecedented. Zero Interest Rate Policy (“ZIRP”) returned and governments increased spending to fill the private sector’s hole. In the US the government provided fiscal stimulus of 18.3%.

Select Countries by Economic Relief, as a percent of GDP

This spending held the economy together in the face of a shock to the private sector. This meant incomes held up (and actually increased) but with travel limited and decreased private sector activity spending fell. The result was a spike in the personal savings rate.

Personal Saving Rate

The excess savings had to go somewhere and with interest rates so low, higher risk assets have been the beneficiary. Whilst the stimulus is meant to encourage investment and foster economic growth, it unfortunately has also led to speculation and mal-investment.

Some of the rally in risk assets can be justified on the back of rebounding earnings, but it looks like pure speculation in part. Take for example, the Goldman Sachs Non-profitable Tech Index. This index tracks the performance of companies in the Technology sector that do not make a profit. The index is up almost 4 times since the March low.

Money for Nothing

This is a market that clearly doesn’t care about profits and by extension valuations. Back in 2002, Scott McNealy (CEO of Sun Microsystems) gave a quote to BusinessWeek summing up the madness of the dotcom bubble:

“two years ago we were selling at 10 times revenues when we were at $64. At 10 times revenues, to give you a 10-year payback, I have to pay you 100% of revenues for 10 straight years in dividends. That assumes I can get that by my shareholders. That assumes I have zero cost of goods sold, which is very hard for a computer company. That assumes zero expenses, which is really hard with 39,000 employees. That assumes I pay no taxes, which is very hard. And that assumes you pay no taxes on your dividends, which is kind of illegal. And that assumes with zero R&D for the next 10 years, I can maintain the current revenue run rate. Now, having done that, would any of you like to buy my stock at $64? Do you realize how ridiculous those basic assumptions are? You don’t need any transparency. You don’t need any footnotes. What were you thinking?”

Fast forward to today and 10 times revenue appears cheap with companies such as Tesla trading at 25 times, Shopify at 54 times and Nvidia at 22 times revenue. These are just a few examples with many more companies trading above 20 times revenue.

To top it all off the latest share market craze are “SPACs”.  SPAC stands for Special Purpose Acquisition vehicles. These companies are established as cash boxes or “Blank Cheque Companies” with no operations at the time of IPO. They then have two years to buy a business or return the capital to shareholders. So far this year an average of five new SPACs have been launched every business day with 300 more lined up looking to raise $90bn dollars.

When SPACs Attack

Outside of the share market, cryptocurrencies have also been significant beneficiaries. As Deutsche Bank puts it, “Bitcoin makes bubbles over recent decades seem pedestrian…”

45 Years of Asset Bubbles

Speculation and higher asset prices have in the past led to unscrupulous behaviour. In most asset bubbles, rising prices cover cases of fraud. In the real estate and homebuilder bubble of the early 2000s, rising prices covered over poor lending standards. The dotcom boom hid the fraud at Enron and Worldcom. History tells us that the frauds in most cases are discovered.

We have to date seen some activity exposed. Last year, hydrogen truck company Nikola was accused of being an “Intricate Fraud” by research firm Hindenburg Research. Hindenburg Research claimed that the company had a trail of proprietary technology that never existed and they had overinflated contract deals. The shares have fallen by over 60% and the CEO has resigned. Nikola was both unprofitable and listed as a SPAC.

Within the cryptocurrency space, the SEC has launched a civil case against Ripple and 2 of its executives. The SEC alleges that they raised over $1.3 billion through an unregistered, ongoing digital asset securities offering. The case will have a wide-ranging impact on the asset class with more regulation likely.

Despite these events, these subsectors of the market continue to rally. We don’t know when the music will stop but we do expect to hear more cases of wrongdoing. Investors need to be careful as these sectors continue to rally, Investing isn’t easy and when gains come in such quick fashion it is just as likely for them to reverse. Warren Buffett said, “Only when the tide goes out do you discover who’s been swimming naked.” Right now the tide is firmly in but investors should be preparing for the inevitable turn.

If you would like to request any further information regarding the information in this article contact us here. Alternatively, for an obligation free consultation about your investment portfolio please contact Guy Carson at gcarson@southpacgroup.com.


Disclaimer: The above contains the opinion of the author and is for information purposes only.  It is not intended to be investment advice.  Seek a duly licensed professional for investment advice

Guy Carson

Guy Carson is Southpac's Investment Specialist. Guy manages Southpac’s external relationships with investment advisors and banking specialists in client relevant jurisdictions around the world. In addition he works with clients to find the most appropriate solutions for their circumstances.
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