What Has Been Done Will Be Done Again: Tech Bubble 2.0

Dear Reader,

Not all stocks are in a bubble.

But stock markets around the world are certainly enjoying a huge increase in speculative behaviour right now.

Not surprisingly, tech stocks are at the forefront of this.

The NASDAQ surged more than 2%, with all the usual suspects contributing. Apple increased 3.3%, Microsoft 2.9%, Amazon 2.65%, and Advanced Micro Devices 7.45%.

But the star of the show was Tesla. Its share price surged 15% on nothing more than news of a stock split.

No change in earnings, just a cosmetic change to the share price.

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Welcome to the tech bubble 2.0

The weirdest thing about this bubble is that it is inflating against a backdrop of severely impaired global economic growth.

Most bubbles start life as bull markets built on sound fundamentals, and a rational narrative as to why. Strong economic growth, rising earnings…that sort of stuff.

But this one?

Not so much.

First of all, up until a few days ago, US government bond yields were falling sharply. In early August, the 10-year treasury yield hit an all-time low. In addition, gold hit an all-time high. This told you that all was not well.

Treasury yields fall in times of uncertainty and slowing economic growth.

In the upside-down world of bad news is good news and MMT (Modern Monetary Theory), falling bond yields also boost share prices.


Because of the old relative valuation argument. When bond yields fall, prices rise. So, the argument goes, relative to bonds, stocks are not expensive. In fact, they’re cheap!

Using this (flawed) logic, stock prices could have much further to run. The chart below uses the 10-year treasury bond yield as a discount rate proxy for the S&P 500.

The lower the discount rate, the higher the stock price for a given level of earnings. The lower the bond yield then, the higher a stock price goes!

Port Phillip Publishing

Source: Yardeni Research

[Click to open in a new window]

As the chart shows, this relationship broke down after the first tech bubble popped in 2000. It widened after the 2008 crisis and widened again after this year’s corona crisis.

That tells you that the underlying health of the financial system has been deteriorating for the better part of 20 years.

I’ll go into more detail on that, and what it means, tomorrow.

But for now, let’s stick with the bubble idea…

The S&P 500 closed overnight just a few points below its all-time high. Chances are, it will make a new all-time high in the days or weeks ahead.

What’s driving this?


Not really.

The chart below shows earnings per share forecasts for the past 10 years. The way to read it is from left to right. So, for example, in mid-2009, forecasts for 2011 earnings started off conservative and then increased as 2011 came into view.

Even since though, earnings estimates have started off overly optimistic and then declined. The exception is for 2018 and 2019, when the Trump tax cuts of late 2017 changed the outlook.

Anyway, the point to note is that earnings forecasts for 2021 are the same as they were at the end of 2019.

Port Phillip Publishing

Source: Yardeni Research

[Click to open in a new window]

And given 2021 forecasts anticipate a 26% increase on 2020 earnings, there’s still a fair amount of optimism priced in.

So best case scenario is that there is no earnings growth for two years. Yet US markets are at, or very close to, making new all-time highs.

That, of course, means investors are willing to pay even more for earnings. This is despite ultra-low bond yields telling you something is structurally wrong with the economy.

Valuation is often expressed in terms of the price-to-earnings (P/E) ratio. But while I’m on a roll with the Yardeni charts, let me give you a different take.

The chart below shows the S&P 500 in terms of sales revenues. I use this because in the age of big tech, where analysts focus on growth in market size and market share (ie: revenue growth) more so than earnings, it is actually a more relevant valuation barometer.

This is easily Tech Bubble 2.0

Port Phillip Publishing

Source: Yardeni Research

[Click to open in a new window]

At the dotcom peak in 2000, the S&P 500 traded at two times sales revenue. It is now well beyond that, with the forward price-to-sales ratio at a record high of 2.37. That’s nearly 20% ‘more expensive’ than at the height of the dotcom bubble.

So yeah, this is easily Tech Bubble 2.0.

As I said earlier, all bubbles start with a kernel of truth. This one, fast-tracked by COVID, is that we need more technology in our lives to work remotely and interact less.

Yes, perhaps we do.

But the bubble mentality takes this kernel and runs with it. Belief in the narrative overrides rational analysis. Investors pay for growth at any price.

And despite the fact that we all know how this movie ends, some cannot help being a part of it. Ecclesiastes said it best a few thousand years ago:

What has been will be again, what has been done will be done again; there is nothing new under the sun.


Greg Canavan Signature

Greg Canavan,
Editor, The Rum Rebellion

Greg Canavan approaches the investment world with an ‘ignorance is bliss’ philosophy. In a world where all the information is just a click away at all times, Greg believes we ingest too much of it. As a result, we forget how to think for ourselves, and let other people’s thoughts cloud our own.

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