Bubble 2.0, Coming Soon?

With today’s generation spending more and more time in front of the screen and I don’t mean the TV, it would be hard not to see a second dot.com bubble looming. A new study by research firm Kelton Research found that 65% of Americans spend more time with their computer than their spouse, awkward! I myself spend a staggering 10 hours a day in front of the computer, whether it’s doing college work, watching videos on Youtube or browsing one of the many social networking sites. And yes before you ask, this is the norm. All I have to do is look to my left –someone on Facebook or to my right - someone on Youtube.

It actually feels like déjà vu all over again as the buzzword “bubble” begins to float around. Bubble 2.0 marks great business/financial opportunities, but a lot of moneymakers can smell the blood in the water and are lurking. I think Internet entrepreneurs have sobered up since the 90′s dot.com bubble and will not (hopefully) fall into the same trap this time around. But, some will, and could loose everything.

People have adopted the new paradigm mentality that “it’s different this time” and “these companies really are worth billions”, but would you take their word for it and invest your life savings? Thought not.

Lets just remind ourselves that the 1999 dot-com bubble was nothing new. We’ve had bubbles before it and will certainly have bubbles following it. For example, there was the CD-ROM bubble, which didn’t last too long collapsing almost overnight. Each succeeding bubble we’ve experienced appears to have been more dramatic than its predecessor. I’d nearly put money on it, that after the collapse of this so-called bubble 2.0, nobody will think of the dot-com bubble as anything other than a warm-up, but I could be wrong!

Today everything from Twitter to the local parish church has a social-networking angle. This scene is out of control and will certainly play a lead role in the collapse. From LinkedIn to Groupon to Facebook to Youtube. . . . these technology companies are milking the social media fad, securing crazy market valuations and partying like it's 1999. Anyone else a little worried?

American resume giant LinkedIn was the first of the major US social networks to go public and saw its shares more than double as they debuted on the New York Stock Exchange last year. Has LinkedIn sparked a social media goldrush?

Other social networks such as Groupon & Facebook are said to follow in LinkedIn’s footsteps early this year. Facebooks valuation is flirting with around $100 billion as it prepares for its IPO. But is this really cold hard cash? Or Is brand recognition once again overshadowing the sustainability of these valuations. This recent surge in IPO’s could be a sure sign that the bubble has started to inflate. 

Unlike with the 90’s do.com, most of these businesses are coming to market with real track records, not just spontaneous ideas. However, even a proven record of success in this fast and loose environment is no indication that a “tech titan can retain its behemoth status for long”, just look at MySpace if you don’t believe me. Many people believe Facebook is impenetrable at the moment, but six years ago MySpace was at the top of the social networking heap, now its just a mere digital ghost town. Still think Facebook will be there forever?

Overall most experts believe we are in the process of another tech bubble but don’t think this one will be as dramatic. Do you think we are on the verge of another bubble?

This post concludes my blog on this topic. Therefore, I'd like to take the opportunity to thank you for reading. I hope you found it both interesting and enjoyable.

Thanks,
Brian O'Dowd.

Short Memories - Or None At All?

The table below illustrates some of the similarities between the 90’s dot.com bubble and the new dot.com 2.0 (social media) bubble. We can clearly see that the same pattern is emerging. So, yes, we probably do have a little POP coming. The question is will this one be as dramatic or have lessons from the previous episode been learnt??

Dot.com Bubble

1.    Companies’ stock prices sky rocketed by simply adding an “e” prefix or a .com to the end of their company name.

2.    Market confidence was based upon number of clicks (“eyeballs”) even though a majority of those clicks did not result in any revenue.

3.    P/E ratio thrown out the window.

Dot.com 2.0 (social media) Bubble:

1.    Companies’s stock prices acting similarly by adding social media to their description.

2.    Market confidence based upon user count, even though many users visit once a month or never at all after signing up.

3.    Our first case study LinkedIn had a first day high of $122.70 – a nonsensical 1,460 times earnings. As on writer put it, “[LinkedIn] has pets.com blushing in its grave”.

Stories from Silicon Valley – Boom / Bust

Here are two contrasting videos I found on the dot.com bubble. The first covers the experiences that companies and people had in Silicon Valley during the Dot-com boom while the other covers the lessons that Silicon Valley founders and entrepreneurs learned during the Dot-com bust. How things changed so quickly!    
                                                                      

"Bubbles, Crashes, and Endogenous Expectations in Experimental Spot Asset Markets" (Smith, Suchanek and Williams, Econometrica 1988).This is definitely a paper you should read if you are studying bubbles.

Bubble Bubble Toil & Trouble

The so called dot-com bubble popped to a near-devastating effect in March 2000 and many of the deceptive tech and Internet companies folded or at the very least learned some harsh lessons. As we saw from my last blog post most of the dot-coms didn’t actually rely on sound business plans, instead those short sighted companies only cared about undertaking IPO’s to acquire easy money. The most insidious part of the dot-com boom was the complete and utter disregard for earnings. Investors were oblivious to how their companies were being run or if they even operated with rational business models; they believed the stock price would double anyway!  Companies were encouraged to just keep increasing members/visitors and SOMEHOW money would accumulate.

When the laws of economics caught on to the fact that there was no substance behind it all the pressurized bubble suddenly popped! With regards to the markets, the supply of IT companies eventually became far greater than their demand. This dealt a serious financial blow to many dot-coms and they began to tumble down in domino like fashion causing many investors to endure grave financial losses.

Other external factors also contributed to the issues of the dot.com bubble. A rise in outsourcing at the time led to widespread unemployment among computer developers and programmers (photo!!) Also as the dot.com bubble was mainly concentrated within the US, it was dealt a severe blow in the wake of 9/11, which led to widespread government investigations. Many stories about companies who had engaged in questionable bookkeeping began to surface and the dot.coms were essentially caught with their pants down.

Looking at the whole bubble ex post, one has to acknowledge the influence the media played in the dot-com bubble. The media hype about the dotcoms disguised many of the problems and discredited many critical comments.

If one had to pin-point the pricking of the bubble, then it would have been the coinciding multi-billion sell orders for dot-com shares in March 2000. The downward spiral was primarily based on rational thinking on the experienced traders’ side because once they suspected a crisis was imminent they got out, but it was also based on herd behaviour and panic on the noise traders’ side. A study by Cooper, Dimitrov and Rau in 2001 proved that “the removal of the .com from a company’s name led, on average, to an increase in the company’s market capitalization”.

Not all IT companies perished during the bubble burst, in fact some continue to flourish today.  Most of those were e-commerce companies.  Examples include Google and Yahoo. 

My next post will discuss whether or not we are on the verge of a second dot.com bubble (a social networking friendzy).

Link to the dot.com top ten flops http://www.cnet.com/1990-11136_1-6278387-1.html

Rise Of The Dot.Coms

Even today most individuals are of the opinion that economic bubbles are just hot air, however, history has shown us that other factors are essential to inflate market bubbles: “irrational optimism, contagion, hyper-speculation and a growing IPO market ” - Was this the case with the dot.com bubble?

The dot.com bubble (and I was there) was powered by the rise of the Internet and the tech industry in general. 1995 marked the beginning of this bubble, due to the substantial increase in the volume of Internet users, who were seen by many companies as potential consumers. As a result, dot.com businesses soon resembled garden weeds, sprouting up everywhere and became known as the “dot.coms,” - after the .com in their web addresses.

A Bubble - What it really looks like!

By the late 1990’s the speculative IT bubble took center stage. Many specialists said that the Internet had unlimited potential (were they wrong??). They believed that the old brick and mortar companies wouldn’t even hold a candle to the new Internet e-businesses. IPO’s became all the rage and companies began marketing every type of product from pet food (Pets.com) to door-to-door grocery services. With the price of stocks such as Yahoo doubling every six months, it was very difficult for the ordinary man/woman to avoid catching Internet fever (Paper on - Contagion). At that time Internet corporations such as Yahoo had more capitalization than multi-national corporation General Motors.

This technology bubble started with the implementation of new technology. It proceeded to grow. Others caught on. MORE people followed (Herding effect). Then the “make money at any cost” people jumped on board in a big “me too” migration. “Lots of money got thrown around in a big digital gold rush”. Was it all based on hype – hot air? Most of the companies at the time engaged in unusual and daring business practices, many without any business plan or structure. They adopted a “policy of growth over profit”. They were of the belief that if they continued to build up their customer base (website hits) their profits would rise simultaneously. Investors accounted for these dangerous practices with money; lots of it.

This dot-com bubble signified the irrationality of investors once again. Investors only gambled on the consistent rise of Internet companies. These gambles led to an idealistic price increase and a quick buck! The NASDAQ increased dramatically during the dot-com bubble and tech hot spots like Silicon Valley prospered. (I will post some videos next week about this).

Just to put this dotcom rise into perspective, “it took radio 38 years, television 13 years and the Internet just 4 years to reach 50 million users”.

But, like all boom cycles in human history even the IT (Dot.Com) boom would have to end someday, that time would be March 2000. My next post will focus solely on the demise of the Internet stock boom.

How do we know if we're in a bubble?

I just read a paper by famous Economist Hyman Minsky, (1919-1996) in which he investigates the recurring instability in markets and developed the idea that there are seven stages in any economic bubble, (even the Dotcom). They are:

1: Disturbance,

2: Expansion / Prices start to go up,

3: Euphoria/ Easy Credit,

4: Over-trading / Prices Reach a Peak,

5: Market Reversal / Insider Profit Taking,

6: Financial Crisis,

7: Revulsion / Lender of Last Resort.

See his paper - Financial Instability Hypothesis [PDF]

Back To Basics - What Actually Happened

This post is slightly off topic, it is just something I recently watched and found really interesting. Inside job goes behind the scenes to expose the shocking truth behind the financial crisis of 2008. Contains some intense interviews to say the least, with some of the major financial insiders, politicians and journalists. This is definitely worth the watch!

Here is the link to the full documentary Inside Job and I’ve also posted the official trailer to the film below for your entertainment.