Elon Musk and the dangers of another stock market bubble

In the summer of 1998, I called Paul Samuelson, the dean of the 20th century American economy, and asked him what he thought of the American stock market, which had already risen sharply in what has become by the following the Internet bubble. “I define a bubble as a situation where the level of stock prices is high and the rate of growth of stock prices is high, due to a self-fulfilling prophecy in which people believe the market will go up.” , Samuelson mentioned. “Based on that, I have to think that there has been an element of a bubble in the market for at least two years, maybe longer.” I then asked Samuelson, a prominent MIT professor who died in 2009, how long he thought this bubble would last. “We have absolutely no theory on the duration of bubbles,” he chuckled. “Anything that is durable for ‘n’ periods can last twice as long. “

History reports that the dot-com bubble lasted almost two more years. Meanwhile, the Dow Jones Industrial Average rose a further 25 percent, the Nasdaq index doubled, and many tech stocks soared. Investors mesmerized by future earnings, not real ones, have backed hundreds of loss-making internet and tech companies that have issued shares through initial public offerings, or IPOs. Then, in April 2000, the Nasdaq collapsed. A year later, as I was finishing a book on the bubble, the index had fallen by about two-thirds and many internet startups had gone bankrupt. Others survived the collapse, and some of them including Amazon, eBay, and E-Trade have grown into huge and very profitable businesses.

Does history repeat itself? There are obvious parallels to today’s market: enthusiasm for new technologies; increased trade by individual investors; cheap money, thanks to an accommodating Federal Reserve; spectacular movements in preferred stocks; record number of IPOs Earlier this month, Rivian Automotive, an electric vehicle maker that had yet to report a dollar in revenue, issued shares on the Nasdaq, in one of the biggest IPOs of all time. At lunchtime on Monday, the company was theoretically valued at nearly $ 100 billion, more than Ford, General Motors or Honda, which total nearly $ 400 billion in annual revenue. It’s a shocking assessment, but it’s only just beginning to capture the current craze for electric vehicle, or EV, inventory. Over the past month, Lucid, another low-income EV startup – which went public earlier this year by merging with a shell company – has seen its share price more than double. Now Lucid is theoretically worth more than Ford and isn’t far behind GM.Then, of course, there’s Elon Musk’s Tesla: the grandfather of the electric vehicle industry, which held up its IPO in 2010. Tesla now has a market cap of almost $ 1.2 trillion. . This figure exceeds the capitalizations of Toyota, Volkswagen, General Motors, Ford, Daimler, BMW, Stellantis, Honda, Kia and Hyundai combined.

If you think these numbers are a little crazy, you are right. But the real clue of the current state of mind in the stock market is what happened to the stocks of Ford, General Motors, and other traditional automakers. If Tesla, Rivian, Lucid, and other electric vehicle startups are going to dominate the global auto industry over the next several decades, the logical corollary is that mainstream automakers are heading for the junkyard. But, lo and behold, the stock valuations of Ford and GM have also risen sharply. Since the start of this year, Ford’s inventory has doubled and GM’s has grown by about fifty percent. Why? The the Wall Street newspaper reported in March that investors were “crowding in. . . old-fashioned automakers who are reinventing themselves as producers of electric vehicles. In May, Ford unveiled an electric version of its best-selling F-150 pickup. GM is working on an electric version of its Chevy Silverado truck.

This bidding up of old and new auto stocks is not creative destruction – the memorable term economist Joseph Schumpeter used to describe the waves of innovation and enforced obsolescence that define capitalist development. It is a classic bubble behavior of the kind that often accompanies great technological innovations, such as the development of radio, in the twenties, and of the Internet, in the nineties. As electric vehicle buyers are offered more and more choice in the years to come, manufacturers will not be able to maintain the large profit margins Tesla currently enjoys due to its first-in-place advantage and subsidies. important government. The intense competition means that savings from electric motors, which will soon be cheaper to manufacture than gasoline engines, will almost certainly be passed on to vehicle buyers by Tesla’s rivals.

In the “Risk Factors” section of its share prospectus, Rivian was compelled to acknowledge some of these economic realities. “The automotive market is very competitive, and we may not be able to compete successfully in this industry,” the prospectus stated bluntly. Of course, Rivian could also prove to be one of the winners in the upcoming EV wars. The company says it has orders for more than fifty thousand vans. But not all electric vehicle manufacturers, new or old, can be successful: the auto industry is not Lake Wobegon. Investors pretend it does.

Musk is a rational person. In 2020, he sent Tesla shares into a temporary blackout by tweeting “Tesla share price is too high imo”. Despite this tweet, the stock increased by more than sevenfold over the next eighteen months. Thanks to his stake in Tesla, Musk is now worth nearly three hundred billion dollars. He and other billionaires have come under fire for avoiding paying federal taxes on such huge stock gains. A few weeks ago, Musk, responding to criticism, posted another tweet: “Lately there’s been a lot of talk about unrealized gains as a means of tax evasion, so I’m offering to sell 10% of my Tesla shares. Do you support this? After a majority of three and a half million respondents answered “Yes,” Musk began selling some of his Tesla shares. As of Friday, he had sold about 8.2 million of them and raised nearly $ 9 billion, according to documents filed with the SEC.

On Wall Street, there’s a lot of skepticism about Musk’s reason for selling: that he wanted to pay his taxes. One theory is that he was already facing a substantial tax impact because he exercises a large portion of the additional stock options granted to him in the past when the Tesla share price was much. lower. There’s no way to know for sure why Musk is cashing in some of his Tesla shares now, but there’s another potentially very simple explanation that shouldn’t be overlooked: It’s the right thing to do. CEO of Tesla since 2008, he has extensive first-hand experience of the global automotive industry and the challenges it presents. Presumably, he also has a good idea of ​​what Tesla is really worth, and, based on his tweet from May of last year, his true valuation has little to do with his current inflated stock price. Of course, there’s always a chance the stock will go even higher from here, in which case Musk potentially leaves money on the table. Ultimately, however, there’s the history lesson to consider: Eventually the bubbles burst, and when they do, it’s not pretty. This is the case with bubbles in individual stocks, in industrial sectors and in the market as a whole. In my conversation with Samuelson all these years ago, he likened the bursting of a stock market bubble to a great accumulation of snow which is giving way. “All bubbles are vulnerable,” he said. “We just don’t know when the avalanche will happen. “

Musk doesn’t wait to find out. On Monday, Wall Street first rose to the news that President Joe Biden has decided to appoint Jerome Powell, the chairman of the Fed, for a second term. Under the congressional mandate of the central bank, Powell’s main goal is to curb inflation and expand employment, but the actions of the Fed have a huge influence in the markets, and she is just beginning. to reduce some of its monetary stimulus measures linked to the pandemic. As Powell and his colleagues figure out what to do next, ordinary investors might be wise to follow Musk’s lead and bank some of their recent gains.

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