Good commentary
This means that everyone who is waiting for a pullback is implicitly betting on 1 or 2 to happen.
By all classical measures the market is currently highly or very highly valued but nowhere near moderate levels. It has also been a rather long bull run. This naturally creates elevated risks and makes a pullback more likely but not a certainty.
However, the AI theme is unlike any other investment theme I have ever seen in my nearly 30 years in markets and prior cycles I studied.
What makes the AI investment theme so different from other groundbreaking technologies of the past is that it can change every aspect of life.
While other groundbreaking technologies like computers, the internet or smartphones before were limited to certain areas of professional and personal life AI has the potential to touch every aspect of life both in professional and personal life. In other words: it will touch nearly every product and service everyone is consuming and add many new products and services nobody has thought of yet.
On top: AI will penetrate the economy much faster than other technologies, even faster than computers, the internet, or smartphones.
This unprecedented investment theme coincides with the rise of retail investors. Retail investors have never played a bigger role in the most important equity market globally, nothing else is even close: the U.S. equity market.
Retail investors often are driven by a belief in a certain leader, brand, or theme and pay little attention to classical financial considerations. Many did quite well with this approach.
Although the outcome of investing in meme stocks, NFTS, crypto currencies, and ultra-high P/E stocks are mixed there is an increasing number of outliers, outliers which are beyond classical investment analysis.
In essence for something to have value all that is needed is the belief of enough buyers. This is not new. Centuries ago the first fiat currencies may have been the first of such belief-based assets (hence the name fiat or ‘trust’). Meme stocks, NFTS, crypto currencies, and ultra-high P/E stocks may represent an evolutionary step of ‘fiat’ assets or belied-based assets. Just like many fiat currencies, many such new assets will fail but some will prevail.
In addition, there may be a formation of large enough belief-based investor circles which creates a self-reinforcing cycle not too dissimilar from a Ponzi scheme. Although some may find the comparison with a Ponzi scheme offensive, the stock market overall is very similar to a perpetual looking Ponzi scheme. Classical finance theory defines the value of a company, as expressed in share prices, as the net present value of future cash flows.
What’s typically omitted is the fact that the same theory postulates return of these cash flows to shareholders. In fact, the entire financial markets theory is based on the assumption that the investment is returned to the investor.
This is where financial market theory and reality differ in immeasurable ways: there is not a single company which ever returned the cash flow equivalent to the investment. Also, modern executive compensation schemes have made it even more elusive since paying dividends makes little sense from management’s perspective when a share buyback can boost earnings per share (a key metric in nearly all executive compensation schemes).
Also, most companies experience the following ark: they rise, get added to the S&P 500, stay there for some time, drop out, and never recover. The average age of an S&P 500 company has dropped below 20 years. The promised cash flow never flowed back to the investor: that is the stock market Ponzi scheme.
At this point you may wonder what this all has to do with the central question of this post at the beginning? The answer is everything.
The AI theme is so different and powerful, and Tesla viewed by such a large number of investors both inside and outside the U.S. as a likely winner that this enormous momentum is unlikely to be captured by classical analysis tools, just as they failed to capture similar belief-based assets.
And let’s be clear: a Tesla investment is mostly an investment in Elon. He galvanizes millions of young and old investors. That’s why many compare the Tesla investment community to a cult. I think it is an accurate comparison but unfortunately the term “cult” is universally negatively connotated even though there can be “cults” that are mostly positive where they help people.
“Get to the point AJ” many will be thinking at this point.
The gist of it all is that I won’t pretend to know what will happen since I believe we move into a new era in financial markets and AI systems likely have closed short-term alpha opportunities already. Hence, obsessing over relatively short-term price movements appears increasingly a futile exercise. “Keeping eyes on the ball” and not be distracted by noise (like temporary demand weakness in the U.S.) may be more important than ever before.
