Tech Stocks: A Source of Future Growth?

    Examining macroeconomic themes it seems there many reasons to be bearish about stocks and the economy. But eventually after a big crash new green shoots grow through the cracks in the sidewalk and a new economy grows. After a systemic crash there will be a further dramatic growth of tech companies. Tech enthusiasts have shown how it may take a period of 20 years for tech developments to reach critical mass at which time the growth and economic impact start to be clearly accepted by investors.
    Does that mean one should not bother trying to avoid a systemic stock market crash caused by an inflated PE ratio and instead plunge right now into owning tech companies? The answer is that it would be prudent to enter an investment when prices are at a low ebb and it might be unwise to buy when prices are high, so now is not the time. Also it is important to think about risk adjusted returns and try to reduce risk by buying companies that meet certain metrics such as quality of earnings, quality of overall financial health, a corporate moat, industry leadership, Value stock pricing metrics, etc. The problem with tech stocks is that investors get too emotional and overpay which may then lead to a bubble crash. Thus one can’t blindly buy an index of tech stocks and hope it all works out because there is the risk that tech companies in an index may experience survivorship bias where the index no longer counts failed companies that have zero value. This warps the index because it only counts the survivors. Also indexes don’t count uninvestible privately held companies. Often the biggest percentage growth of a tech company’s share price is pre-IPO so the retail public only gets to buy after it is too late. Remember how Netscape, an excellent company, went public but was taken private after four years at a lower price. The people who made money from Netscape were the pre-IPO VC’s and employees instead of retail stock market investors.
   My concern when I hear tech evangelists speak about how tech will change the world is that to actually buy a tech company one incurs first the problem of an excessively high PE ratio, second one incurs the risk of rapid obsolescence and a high stakes gamble that the company’s reason for existence was quickly outcompeted by a newer, better technology. Buffett dislikes tech companies and airlines probably because of these concerns. He said that in a century of aviation the airline industry collectively hasn’t made a profit for stock investors. It seems that a key part of Buffett’s strategy is to buy low priced Value stocks that are low priced because they lack glamorous flashy new technology. Ironically the tech in tech stocks makes them too expensive to invest in post-IPO, yet there is a bright future for tech. Remember that in the California gold rush the people who made and saved money were those who sold supplies to the miners instead of the miners themselves.
  Yes, you can count me in as believing that tech growth will help grow the GDP, create new occupations that provide new employment, and solve problems for consumers. It may be possible that a dramatic growth in tech and other complicated occupations will create more employment for professionals in developed countries and create brain drain from EM countries. It may even be possible that those who lose a job to tech will be able to get by with welfare and lower costs of living and with temp work in part created from new technology.
   But the risk is great that for every ten tech stocks nine will be a disaster and since diversification is important then the profits from the winner may not be much more than the losses from the losers. In investing it is important to examine risk-adjusted returns and to reject an opportunity to invest where there are too many unknowns or too much risk. Thus some of the benefits of tech stocks may be very difficult to harvest post IPO on a risk-adjusted basis.   Even though I’m optimistic about tech’s ability to improve the macroeconomic future in the extreme long run, I think for the next few years that investors need to be very careful about conventional bubbles in conventional companies and be aware of the risks of failure in investing in tech or in other industries. NASDAQ crashed 78% from 2000 to 2000 and took 14 years to breakeven, and if counting inflation it is still 25% below breakeven after 15 years. Yes, if you bought Apple and Google a decade ago you’d be happy, but their success didn’t bail out the average tech stock investor and it wasn’t prudent to put an excessive concentration in just a few companies.
   Perhaps in a few years central banks, Quantitative Easing, zero rate policies and extreme use of debt will be so discredited that people will decide they should buckle down and study hard to follow prudent principles of fundamental investing after a hard crash. As commodity exporting countries like OPEC suffer a series of setbacks then those scarce resources will be more freely and reliably available at low prices which will contribute to a new global boom in the next decade. Perhaps the liquidating effects of the global stock and commodity crash will create a better world where people will work hard to become a scientist, an engineer, a doctor, etc. and stop spending time engaging in speculative bubbles. Then the economy can move forward into an era of greater productivity and profits which will then trigger a legitimate boom where the stock market appreciates based on sound reasons instead of based on bubbles. After the Great Depression there were a lesser amount of students who earned top degrees in business and went to work on Wall Street. Instead many people from 1930 to 1980 chose to work in other fields such as science, engineering or manufacturing, so it’s no coincidence that growth rates were higher in 1945-1980 than in recent decades.
   To reap the harvest from a new era of tech stocks one must judge each company on its own merits based on fundamental analysis and on careful judgement to avoid excessive risk. People should not simply buy an index fund if they want tech stocks. Investors need independent financial advice about the risks of tech stocks. I wrote an article “Bright economic future doesn’t mean stocks will rise forever”.

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Don Martin

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