It’s 1999 all over again. This is the second era of “irrational exuberance,” to quote a former head of the Federal Reserve. We are living in the dot-com bubble 2.0 era.
Like the bubble of the late-1990s and early-2000s, tech businesses are generating multi-billion-dollar IPOs and are witnessing their shares spike to record highs. All of this is happening without many of these tech firms turning around a single cent of profit.
Thanks to a better-than-expected quarterly earnings report, Netflix has seen its stock price surge as much as 14% on Tuesday to a little more than $184. During the April-to-June period, the online streaming juggernaut added more than five million new subscribers, much higher than the original projections of around 3.2 million customers. The sudden spike is being attributed to its original programming, like “House of Cards” and “Orange is the New Black.”
Netflix added in a letter to shareholders that it garnered $2.8 billion in total revenue in Q2, up by 30% in the same time a year ago. The website also projects an additional $3 billion in the next quarter. Although Netflix earned a tiny profit in the second quarter, its operating cashflow over the last twelve months has been negative $1.9 billion – if you add capital investments then it’s negative $2.2 billion.
And there lies the problem: a business bleeding red ink but speculative traders and easy money policies propping up the stock to hit an all-time high.
When you begin to comb through the figures at Netflix, you see an entirely different picture. Not only has Netflix been unprofitable over a twelve-month period, the amount of debt that the streaming giant has is immense. As part of efforts to compete against Amazon and to dominate Hollywood, Netflix has seen its total debt level climb 45% in the last three months to just under $5 billion.
But it isn’t just Netflix. There’s a plethora of tech businesses that are in the red.
One of the darlings of the stock market this past spring was Snapchat. In its first trading week, the social network received an IPO of around $24 and soared to just under $30. Despite never making a nickel in profit and the CEO conceding that it won’t earn a profit for at least the next five years, if ever, traders were enthusiastic about the company. What may be an act of common sense, the stock has cratered to $14 a share.
There are two trends occurring in the industry: tech behemoths are unprofitable or they’re deeply in debt. Amazon and Twitter haven’t made a profit, while Uber and Apple are bulking up their debt totals. According to USA Today, tech businesses in the Standard & Poor’s 500 index are drowning in $450 billion worth of long-term debt, up 42% from 2015, and have sold approximately $100 billion of corporate bonds.
In today’s tech market, IPOs don’t make money but they raise billions of dollars in funding and they see their stocks hit record highs. Doesn’t this look like the dot-com bubble all over again? Yes, and it highlights how much Wall Street is a mad, mad, mad, mad world.
But this is a symptom of something much greater. The disease is the Fed and its money-printing endeavors, and you can thank the Ben Bernanke-Janet Yellen regime for today’s irrational exuberance.
Speaking in her semi-annual testimony to Congress earlier this month, Fed Chair Janet Yellen explained that the central bank would be gradually lowering its $4.5 trillion balance sheet while raising interest rates. But the bubble had already been enormously inflated – something she admitted to in 2015.
As we have seen with the current Trump administration, there is a mistaken belief that when there is a stock market boom that is a reflection of a booming economy. Not quite. Over a long period of time, stocks rise when there is inflation – the increase of the money supply which then seeps into the economy and markets – and this freshly printed money flows into the stock market and capital goods sector. There are short-term effects, of course, but the long-term is generally impacted by the Fed.
Easy money essentially drives the stock market. Unfortunately, this kind of monetary policy only works for so long until the money oozes into the rest of the economy. This is why only the cronyists at the top benefit from this Fed-induced bubble; as the well-connected top get richer, the poor and middle-class will have to contend with a tumbling greenback, weaker purchasing power and rising price inflation.
Since the Great Recession, the Fed’s money supply growth has accelerated, which has played an important part in the Dow Jones, NASDAQ and S&P 500 all posting record gains. There have been instances where money supply growth has stalled, but it has generally been in an upward trend for the last decade. The monetary inflation has hit everything from the vintage automobile market to the classic art market.
Once Yellen and Co. turn off the tap then you will begin seeing the bubble pop and many of these tech firms close their web portal doors and markets collapse, if they haven’t already.
Remember when Pets.com and eToys.com folded in the early 2000s, causing market-wide panic? Well, you’ll see the same scenario unfold and the wide array of tech companies that provide little to no value, maintain excessive debt levels or have zero profits will fade into a distant memory. The difference this time is that present debt levels are at all-time highs, and when rates ascend to combat swelling inflation, there will be chaos like we have never seen before.
Should National Economic Council (NEC) Director Gary Cohn succeed Janet Yellen at the helm of the Fed next year, will he be the next Paul Volcker? Cohn may have no other choice.
