- Billionaire investor David Einhorn thinks he’s pointed out the salient characteristics of some of the frothiest stocks in today’s market.
- Those are the stocks that can show you the narrative of this bubble — the story we’ve told ourselves that’s worth more than actual money.
- Maybe it’s time to give that story a name.
David Einhorn, the founder of hedge fund Greenlight Capital, has started one of the most important conversations we can have during any stock market bubble.
It is not “When will it burst?” Nobody can answer that. The question is “What is it called?”
Bubbles are mostly characterised, after the fact, by their worst excesses. The housing bubble of course was named for excesses in the mortgage market, and the dot-com bubble of the ’90s was characterised by the market’s obsession with companies with websites, regardless of their profitability. In each case, value was assigned to a security because of a prevailing narrative and not because it was generating cash for its shared owners.
So what will we call this bubble? What is the narrative driving its worst excesses?
Here’s how Einhorn is thinking about it, as he wrote in his fund’s quarterly letter, sent to investors this week:
“Given the performance of certain stocks, we wonder if the market has adopted an alternative paradigm for calculating equity value.
“What if equity value has nothing to do with current or future profits and instead is derived from a company’s ability to be disruptive, to provide social change, or to advance new beneficial technologies, even when doing so results in current and future economic loss?”
Specifically here, Einhorn was addressing the fact that his basket of “bubble shorts” — which includes market darlings like Amazon, Netflix, and Tesla — is continuing to rise despite a lack of profitability. So the question is, what is the narrative investors are assigning to these companies that somehow means more than money?
He’s telling us what he thinks it looks like and politely suggesting we give this sucker a name.
Some characteristics for your consideration
It almost physically pains me to say it, but Einhorn should call this the disruption bubble.
“Disruption” is overused and uncool, but that’s usually true of anything by the time Wall Street gets to it. The idea that “disruption” gets a premium in the stock marke goes with the rise of the antiestablishment feeling around us. All the stocks om Einhorn’s basket challenge established businesses — businesses so big that they’re institutions.
Current events suggest humans are not so keen on big established institutions right now.
People all over the world have come to distrust legacy institutions in politics and in society, so it’s not a stretch to think it’s doing the same thing in markets. Additionally, it’s reasonable to think we can observe this behaviour not just in stocks that are going up, but in stocks that are going down.
I don’t mean the obvious shrinking businesses like Macy’s that are seeing some of their worst times. I mean the profitable giants that are doing relatively OK and somehow are getting punished for spending money to adapt to the new market. Disney comes to mind.
After Netflix announced that it would burn billions to create content over the next few years and remain cash flow negative (as Einhorn noted in his letter), Wall Street analysts cheered it with a higher stock price.
Around the same time, Disney announced it would invest in its streaming service. In response, Guggenheim analyst Michael Morris downgraded the stock.
“While we are optimistic that the company’s proposed direct-to-consumer video products will create long-term value, we expect the initial investment and long lead time into the launch of the Disney-branded offering will weigh on sentiment over the next 12 months,” Morris said.
Oh, so Netflix can burn billions on programs that could be flops (ever heard of “Hemlock Grove”?) and get high-fives all around, and Disney, with decades of content that people around the world are obsessed with, can’t invest in a streaming service without getting docked? Guys.
It’s probably going to get dumber
I still believe that value is still value. I come from a generation of business writers who cut their teeth during the financial crisis, as bank analyst Meredith Whitney was warning the colossus of Wall Street, “You’re either making money or you’re not. If you’re not making money, get out of the business.”
Some of them did (leave certain businesses, that is).
It was a moment when we, as market participants and fearful witnesses, were acutely aware that businesses that do not make money cannot survive. Money was scarce, and so we didn’t have time to make up new fun narratives for why money doesn’t matter as much as x.
But that moment has passed, as it will in every economic cycle. Now we’re in another moment, and in this moment we are buying not just actual destruction — but also the hope of destruction.
Here’s another example: Wall Street’s newfound love of cryptocurrencies. Nothing says antiestablishment like an attempt to create a currency outside the state and investors are loving cryptos for it. That, of course, doesn’t mean we’re anywhere near buying McDonald’s with bitcoin — or that we ever will be. But we’re thinking about it, and in today’s world, has finally met the mainstream.
The fact that Lloyd Blankfein is being forced to acknowledge something that’s inherently subversive, though, should give you pause. Once legitimized as the establishment, can it still keep its “disrupter” premium?
Wall Street jumping on the bitcoin bandwagon is a little like your mum joining Facebook. Maybe she’s awesome, but her participation marked the end of Facebook being young and cool. Bitcoin and other cryptocurrencies, once sanitised and securitized by the beige-ness of banking, will cease to be subversive and interesting as well.
Not to mention that they will continue to lack any kind guarantee from any legitimate state or even nonstate entity with any power whatsoever. After that subversive, disruptive, destruction premium is gone, that fact remains: You’re either making money or you’re not, and you either have some power backing your money or you don’t.
I can’t end this article without acknowledging the following. Yes, low interest rates are pushing money into the stock market and contributing to this bubble (again, if you believe it’s a bubble). As we know, there’s an inverse correlation between US Treasury bond yields and stock-market returns.
Regardless of the Fed, though, it is in the narrative we spin around this bubble that you’ll find the frothiest behaviour. That’s where the bubble gets its name, and that comes from us.
So what shall we call this one?
Get the latest Bitcoin price here.
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