“Irrational Exuberance.” A phrase made popular by former Federal Reserve Chairman Alan Greenspan serving between 1987 – 2006 who passed away this week at the age of 100. Greenspan coined the phrase in December 1996, warning that investor enthusiasm may be driving stock market prices beyond their fundamentals. Ironically, the stock market continued to rise in 1997, 1998, 1999, and the first half of 2000. One lesson to be learned is even legends get timing wrong. At the same time, the Tech Wreck, between mid-2000 and 2002, was one of the worst market swoons in history. So, maybe Greenspan was ultimately proven right?!?
Lately, many market pundits have been equating recent market advances to the late 1990s. Only time will tell if we are in a period of irrational exuberance or a period of rational exuberance. There is no doubt that investors are excited about the future. Major themes include artificial intelligence (AI), robotics, and space utilization/development. The confluence of these themes means machines working autonomously in dangerously demanding vocations (think mining, construction, longshoremen, etc.), monotonous factory assembly, faster pharmaceutical development, safer roads via autonomous autos, or full G5 connectivity via satellites without laying miles of copper wire or dotting the landscape with cell towers.
The question becomes, “Are stock prices overestimating the impact or timeliness of such advances?” Hence, are stock prices highly valued? Traditional valuation metrics, based on backward-looking data such as earnings over the past 12 months, would suggest the answer is yes. However, investors are rewarded for future performance, much of which has yet to be realized from the above-mentioned technologies, which promise tremendous productivity gains.
Another big difference between the 1990s and today is profitability. Many of the 1990s dotcom companies were not profitable and lacked demonstrable revenue sources. Today’s era is quite different. Many of the companies are generating profits, have dedicated forward revenue sources, and/or have deep pockets. During the Dotcom mania, everything felt unprecedented largely because no one alive could recall the last great technology boom (i.e., the industrial revolution, well over 100 years ago). Yet, many of us personally harbor memories of the lessons learned during the Dotcom era and the accompanying Tech Wreck.
Such generational revolutions impact many sectors, industries, and sub-industries. Financial bubbles may occur during the build-out, specifically for the head of the spear companies, but downstream industries may benefit from such themes with less risk… think needed data centers. Those data centers need reliable and consistent electrical power, which will benefit energy, utility, and materials (steel for building, copper for electrical components) companies. Data centers also need enhanced cooling, benefiting HVAC and water companies. Not to mention the real estate for terrestrial buildings. The point is that such a dynamic revolution occurs infrequently and has the potential to lift all boats as we ascend the Kardashev scale.
There is no denying that global excitement abounds. Much can be seen through higher stock prices. However, there will be industries and companies that will experience irrational exuberance. Financial bubbles will inflate and deflate. Proven market statistics won’t be rewritten. Corrections and bear markets will happen sooner or later. There is no sugarcoating it, that’s apropos for equity investing. The best defense is not to become too enamored with recent fads and to remain diversified. There are no guarantees, but a diversified portfolio has been proven to be the best long-term strategy.
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