The slump in tech share prices could slow down innovation

When you look at the stock market leaders over the decades, you find that the Walmarts and General Electrics of their day have been replaced by companies that, 20 years ago, for the most part didn’t even exist. As is often said, ‘exogenous factors’ have changed the rules, and not only are investors currently losing out, but investment in new technologies via private equity is suffering to such an extent that it threatens to slow down the current pace of innovation.

Inflation, war, lockdowns and the highly likely recession only serve to exacerbate a global problem that people seem unwilling to acknowledge.

By Miguel Ángel Temprano

19 May 2022 Reading time: 3.15 mins

We are witnessing the collapse of the stock market paradigm of the last two decades. And why do I say this? Because whilst last year we saw several companies, all of them technology firms, exceed a market capitalisation of one trillion dollars (or ‘trillion’ according to American terminology), with some even reaching three trillion, so far in 2022 there has been a widespread collapse in the share prices of these companies.

“Sooner or later, the stock market puts everything in its proper place; if a company is not worth its market price – whether overvalued or undervalued – there will come a time when its intrinsic value and market price will align.”

The question I’m always asked is the same: ‘But does this only apply to the stock market, or is it also true in real life?’ And my answer is always the same too – the one I’ve been giving for 30 years, ever since I started out in this business. A company’s value may be overvalued or undervalued, but this situation is never permanent; so, if something is not worth what its share price suggests, sooner or later the market will bring it back to its true value.

I invite you to watch the video ‘How we value a company’ on this page:

https://www.miguelangeltemprano.es/blog/videos

Some of you may have seen one of the trending series – the one about Uber and WeWork – two examples of companies that shot up like a rocket only to crash down like a brick.

These days, it’s no longer fashionable to follow Warren Buffett, one of the leading advocates of the ‘Value School’ – a school of thought that essentially says you should only look at what a company is actually worth, regardless of its share price –; today, it’s fashionable to follow the new ‘guru’, Cathie Wood. When Ms Wood speaks, the market soars. Or perhaps not anymore, because the fund managed by the ARK Innovation Exchange-Trade Fund has taken a 60 per cent hit so far this year. Yes, I’ve got that right – 60 per cent – but if you’ve seen the series about WeWork – *WeCrashed* (loosely translated: ‘we crashed’) – the name Masha will ring a bell. Well, this Japanese ‘guru’ of investing in unlisted companies – the famous private equity – lost 13.2 billion US dollars (USD) last year due to the valuation of her companies, but in the first three months of this year she has lost ‘only’ 26.2 billion USD.

Honestly, I’m not getting the figures wrong. And do you know what’s worst? The level of debt at SoftBank – whose CEO is Masayoshi Son (Masha to his friends) – is enormous. And as you well know, the cost of money can only go up; and if it doesn’t rise via interest rates, it rises because your currency weakens against the dollar.

“The necessary tightening of monetary policy – the main means of reducing inflation – will hit indebted companies hard, but above all indebted investors”

Let’s turn the page for a moment – although we’ll come back to this later – and take a look at what has happened to the market ‘giants’ over the last decade. Netflix has seen its value fall by around 70 per cent so far this year, whilst Amazon’s has fallen by 30 per cent.

Not so long ago, we were saying that the value of the US benchmark index was being artificially inflated by Amazon and that, rather than the S&P 500, we should be looking at the S&P 499 – in other words, taking Amazon out of the equation because its value was distorting the entire index. Just imagine: a single company was distorting the value of the 499, which included all the giants of history – well, those that had survived.

Amazon was consistently trading at a P/E ratio (the number of times its current profits are multiplied to calculate its market capitalisation) of approximately 100; in other words, you were assuming that the company’s earnings would grow at a double-digit rate indefinitely, because otherwise you would have been buying a company that would only recoup your investment in 100 years. Well, in reality, you were assuming that you would be leaving the shares as an inheritance not to your children, nor to your grandchildren, but to your great-grandchildren.

“It seems that all, or almost all, of the new giants had built enterprises designed to reach Mars, using oversized structures”

Well then, Amazon executives have already publicly acknowledged that they are overstaffed – that’s what workers are now called – and that they also had too much space in their warehouses, because they had overestimated their growth potential. Quite a statement – only to be sacked a minute and a half later, not for negligence, but for being naive.

And who’s to blame? Well, no one, because we all know that when things go wrong, it’s down to circumstances or unforeseeable factors, but when things go well, it’s because they’re geniuses. Politicians are particularly good at this.

According to everyone, it’s all down to runaway inflation, supply bottlenecks and Putin’s war. According to ‘everyone’, nothing could have been foreseen, but if you go to the Caribbean and get soaked in a summer storm, it doesn’t seem like much of an excuse not to have taken even a grubby raincoat with you. It rains almost every afternoon in the Caribbean.

It is unforgivable that executives or politicians on multi-million salaries do not prepare for disaster scenarios, or even give the slightest consideration to such scenarios and take precautionary measures.

And now we are seeing share prices plummet, particularly in the technology sector. With bond prices also plummeting, and for the first time in decades, both bonds and shares are falling in tandem.

“For the first time in decades, share prices are falling by double-digit figures, whilst bond values are also falling by double-digit figures.”

For those who are not used to the rather specific language we use, a bond falls in value when new issues are priced at higher interest rates than previous issues with the same maturity. In other words, if I have a 5-year bond at 1 per cent and new issues with the same maturity are being issued at 2 per cent, and I want to sell it on the secondary market, no one is going to offer me 100 per cent of the bond’s value, as they can buy the same bond at 2 per cent; this is why we say its value has fallen.

All of this results in a loss of value for the investor, and I would point out that the world’s main investors are workers who invest part of their wages in a pension fund.

But these setbacks caused by the ‘Mashas’ of the moment – and there are many of them, with vast sums of money under management – also do a great disservice to innovation. There will be no major investors in new, innovative companies with significant growth potential, and that is a problem for the development of society.

“One of the knock-on effects of what is happening in the economy is the loss of investment in new talent – the very people who have truly changed the world in recent times”

And the fact that the world now advances more in a single year than it did a century ago in 100 years is not down to innovation by large companies, but to the geniuses who, working out of a garage, have designed things that have changed the world.

WhatsApp was developed by two Ukrainian immigrants; Apple was founded by a visionary, as were many other companies that have changed our world – from communications to mobility and artificial intelligence.

It is not AT&T that is developing the technology of the future, such as blockchain, but rather young geniuses who, thanks to seed funding, have changed the world.

So, as a result of inflation, war, the Chinese and who knows what else – and thanks to many of these ‘gurus’ – global innovation may well slow down, if not come to a halt altogether.