Is the market in bubble territory?
Parallels with the late 1990s.
Markets are starting to party like it’s 1999. We’re not quite there yet, though. Between October 1999 and March 2000, the Nasdaq almost doubled. That makes today’s markets look tame, but perhaps another blowoff top is around the corner.
That’s especially the case as markets start to front-run the appointment of a new Trump-friendly Federal Reserve Chairman, who will undoubtedly cut rates – potentially a lot - by mid next year.
The parallels
The similarities between today’s markets and 1999 are becoming eerie:
1. Market (over?) exuberance for anything tech. Just ten firms – including Amazon and Nvidia - have accounted for 55% of the rise in the S&P 500 since ChatGPT launched in 2022. Today, Nvidia is tech’s golden child, as CISCO was back in 1999.
2. Bulging non-listed tech deals. In July, an AI start-up called Thinking Machines Labs raised $US2 billion in funding at a valuation of $US10 billion. Leading Silicon Valley venture capital firms led the deal, and the likes of Nvidia and, funnily enough, CISCO, also chipped in. The kicker? Thinking Machines doesn’t have a product or any revenue.
These types are deals are making the 90s look lame.
3. Lossmaking listed tech firms are booming again. In 2000, online retailer Pets.com listed at a valuation of $US1.2 billion despite generating only $US5.8 million in revenue.
Today, meme stocks are leading the charge, outperforming the index and even the Magnificent 7.
4. AI-related news is greeted with market exuberance, like tech/telecoms was in the 90s. In September, Larry Ellison briefly became the world’s richest man after AI enthusiasm prompted the share price of Oracle, his firm, to pop.
5. Spending on AI is skyrocketing, like it did with telecoms in the 90s. Morgan Stanley estimates that cumulative investment in new data centres will reach $3 trillion by 2028. That dwarfs current AI revenues of about $US50 billion and raises questions about the return on investment from AI spend and whether we’ll be left with ‘ghost’ data centres akin to what happened with telecommunications equipment in the dotcom period.
6. Funny ‘vendor financing deals’ are back in vogue. The largest of these deals is Nvidia’s US$100 billion investment in OpenAI. Under the terms of the deal, OpenAI pays for Nvidia’s powerful chips in cash, while Nvidia will reinvest that amount in OpenAI through non-controlling shares.
This has similarities to ‘vendor financing’, a 1990s tactic where companies lent money to clients to facilitate the purchase of their products.
7. Accounting gimmickry has resurfaced. Bookkeeping gimmickry is a telltale sign of a speculative boom. It might be happening again today.
Many of the tech giants have lengthened the depreciation schedule for their AI servers, which seems odd given the recent advances in chipmaking. Microsoft increased it from four to six years in 2022. Alphabet did likewise in 2023. Oracle altered it from five to six in 2024. And Meta moved from five to five and a half years in January this year.
Lengthening the lifetimes for servers decreases depreciation charges and boosts short-term profits.
Barclays estimates that using more realistic server depreciations schedules of three years would reduce earnings of Meta, Amazon, and Alphabet by up to 10%.
The differences
While there are undoubtedly similarities between today’s markets and those of the dotcom era, there are also some important differences:
1. Rates are going down, not up. In 1999, the US raised interest rates three times to try to cool an overheated economy. Now, the Federal Reserve is cutting rates, with more to come.
2. Gold is at record highs. The contrast between the gold price in the late 90s and now is striking. Back then, as the stock market boomed, the gold price was in the process of bottoming after a 20-year bear market. Today, gold is surging to record highs along with markets.
3. Fiscal deficits and debt are exploding. This may have something to do with gold’s bull market. Western governments have been happy to rack up fiscal deficits and debt to prop up their economies over the past decade.
With the rise in interest rates from historic lows in 2021-2022, that’s become increasingly problematic. For instance, the US government now spends more on servicing its debts than it does on the military.
There are legitimate concerns that the US is now caught in a debt trap – a vicious circle of higher borrowing costs and larger deficits sending the stock of debt on an uncontrolled upward spiral.
It’s no wonder investors are turning to gold as a safe haven.
And it’s quite a different situation to the 1990s, when government debts were much lower.
4. Economies are more exposed to tech today. When the dotcom bubble burst, it led to a short, sharp US recession in 2001.
Today, the US economy and perhaps many other economies are even more exposed to the tech boom. AI contributed almost 40% of America’s GDP growth over the past 12 months - an incredible number given the sector only accounts for about 2% of US output.
5. AI is producing extraordinary winners though ‘quiet’ losers too. The rise of the Internet transformed industries, though it feels like AI is creating even greater structural change.
We’ve all heard about the winners from AI, yet there has been little spoken of the losers.
I’ve been tracking data-related companies, some of which have been stellar stocks for decades. Lately, they’ve been getting hammered over concerns from the impact of AI.
FactSet, a prominent financial data and analytics company, is one of them, down 42% year-to-date.
Gartner, a leading ratings firm for tech products, has fallen 52% over the past year.
The upshot
No two periods are the same, though today’s markets have a lot more similarities to the 1990s than differences.
Further rate cuts have the potential to provide further fuel for surging markets.
The concern is how dependent US economic growth has become on AI spending. Should that spending falter, the blowback for US and global GDP could be severe.
Buckle up, it could be a wild ride.
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