Tech bubble a worrying complication of the pandemic

Afterpay’s Anthony Eisen and Nick Molnar. The buy now pay later firm is the tech sector’s current poster child.

A rather baffling, and worrying, complication of the pandemic of 2020 is that it seems to be coinciding with a tech bubble on the stock market. A messy crash in the middle of a global recession and health crisis would, to say the least, be unwelcome.

There was a pretty serious crash to begin with of course, but since then it’s been up, up and away, especially for tech stocks. It’s not quite the same as the dot.com bubble of 1999-2000, but it definitely rhymes.

In the final year of the 20th century the US Federal Reserve gave the Nasdaq a 78 per cent kick between October 1999 and March 2000 with a big injection of liquidity to offset Y2K, subsequently withdrawn; the Nasdaq’s 55 per cent rally from the March 2020 low is also largely due to Fed liquidity.

Actually, the Australian tech boom/bubble of 2020 is more spectacular than the Nasdaq’s, both this year and in 1999-2000. The new ASX All Technology Index is up 92 per cent from the March low, thanks mainly to panicky, hail-Mary, FOMO buying of the new breed of buy now pay later (BNPL) firms, led by Afterpay.

If Evan Thornley’s Looksmart, the internet search business, was the poster child of the Australian tech sector in the late 90s, in 2020 it’s definitely Afterpay, a four-month nine-bagger (up nine-fold). Another BNPL operator, Sezzle, is a near 20-bagger over the same period, but with a market cap of $584 million it’s still a comparative tiddler next to Afterpay’s gobsmacking $20 billion.

Looksmart peaked at $7 billion in 2000, or about $10 billion in today’s money, which was 63 times revenue; Afterpay’s value of $20 billion is 75 times last year’s revenue. The price earnings ratio, needless to say, is infinite, since earnings are negative.

Which is one of the ways in which 2020 rhymes with 1999: the more these tech companies lose, the more the punters love them. In the past two years the aggregate value of Australia’s BNPL firms has gone from $2.3 billion to $23 billion while their aggregate losses have ballooned from $74.6 million to $287.8 million.

Meanwhile the founders of these companies are taking plenty of money off the table along the way, including $270 million this month by Nick Molnar and Anthony Eisen of Afterpay.

Investing in mysteries

Another way that “now” looks like “then” is that in 1999 it was all pure uninformed speculation: no one had any idea how much money those businesses would make or who would win. In fact it turned out to be companies no one had heard of at the time, like Google and Facebook, and none of them was Australian.

In 2020 BNPL is another magnificent mystery – a new industry that is able to draw very steeply rising graphs.

One difference, though, is that Australia seems to be close to leading the world in BNPL, whereas in 1999 it was far from doing that.

The reason Morgan Stanley’s Andrei Stadnik slapped a $101 price target on Afterpay last week, prompting an 11 per cent pop in the price (it’s now $72-ish) is the global platform it’s building and, in particular, the way it is winning in the US.

Stadnik makes a persuasive case that his imaginative valuation for Afterpay of 31 times next year’s forecast revenue is justified, and it is certainly being lapped up by the punters, but let’s face it – it’s a bubble.

Whether it pops while we’re still fighting the coronavirus depends on many things, but mainly on the Federal Reserve.

The dot.com bubble cracked because the Greenspan Fed disastrously raised interest rates six times in 1999 and 2000, including 50 basis points in May 2000, causing a recession in 2001 that cost 1.7 million jobs. The extra liquidity to combat Y2K was withdrawn in April 2000, prompting the second leg of the crash.

There is absolutely no chance of that happening this time, either in the US or here. Both Fed chair Jerome Powell and RBA Governor Philip Lowe have made it very clear that the current monetary policy settings of near zero interest rates and quantitative easing will be with us for years.

A scene from the 2000 Wall Street crash. Picture: AP

Other causes

What else would cause a stock market crash? A recession? A pandemic? Apparently not – they’re both old news and after the initial crash, retail punters are happily flooding into the market and taking both the Nasdaq and the ASX All Tech Index to record highs.

Apart from a proverbial Minsky Moment, where the market spontaneously combusts in an excess of exuberance, it’s hard to see what will cause this bubble to burst.

(And in case you’re wondering the 1987 crash wasn’t a Minsky Moment out of the blue – the Fed was raising interest rates from July 1986 to September 1987. The 2007-08 GFC was caused by a succession of Fed rate hikes in 2006.)

So can the market lemmings ever jump off the cliff of their own volition, without being pushed by central banks?

Was the February-March crash merely the curtain raiser of a crushing pandemic bear market, and the rally since then just a bear trap?

Will the retail punters who have flooded into tech stocks in the past four months flood out again of their own accord?

Or is it a new bull market following the shortest bear market in history?

Stay tuned for the next exciting episode of The Pandemic Bubble.

Alan Kohler is Editor in Chief of Eureka Report