Anorexia Nervosa

A mile high and an inch wide

A remarkable thing about the stock market rally of the past few months is how few stocks have participated. I’ll leave the exact numbers to others – they change from one moment to the next – suffice it to say the vast majority of the gains have come from a vast minority of names. The usual culprits … a handful of residents of the teracap neighborhood. As I write, not only the small cap Russell 2000 but the blue chip Dow Jones Industrials and even Cathie Woods’ innovation-focused ARKK are underwater on the same day the NASDAQ soars nearly two percent.

The field continues to narrow. Today it’s down to barely a single stock. Nvidia announced after the bell yesterday a dazzling blue sky outlook. The basis is the latest tech buzz; artificial intelligence.

AI is hardly new. Investment managers have been using it for some time, for instance the fund QRFT we cited a couple years ago. Our own SS uses a specialized form. What’s new is a public imagination sparked by the sensational ChatGPT release late last year. Make no mistake … AI is big. But with a little prodding from Wall Street, the investoriat repeatedly gets carried away with Big New Things.

While Nvidia is a great business, its stock is priced for the hereafter. Even if shareholders collected all of its current stated annual earnings, it would still take 160 years for them to recoup today’s stock price. The tacit assumption that nothing could go wrong along the way is a bit speculative to say the least. The real profits available to shareholders, meanwhile, the dividends it pays (that the rest might be real expenses of maintaining its market position seems to pass unnoticed), are minute in relation to the stock price … sixteen cents annually on nearly four hundred dollars. That’s nearly 2500 years to get your money back. And this is a big, mature, corporation, not a startup or small cap where investors might expect to subsidize the business for a few years.

In all the breathless coverage I’ve seen since yesterday’s announcement, I’ve not seen any math … no mention of discounted cash flow, the balance sheet, or dividends, Unfortunately for investors unwilling to comprehend anything more than a story, the math has a way of having the last laugh. As Ben Graham put it, in the short run the market is a voting machine; in the long run it’s a weighing machine.

But onto what this post is really about. Until recently, the narrowness of the US stock market has been missing a key ingredient … the rest of the world. The world stock market ex the US even led the charge out of last fall’s lows, and has remained strong even as the US portion of the market has narrowed. But since early this month, that circumstance has dissipated. Ex US has begun to lag US. Now it’s not so much of a stretch to say that the entire world’s stock market is being held up by just one stock.

In all fairness, Taiwan Semiconductor, which actually makes Nvidia’s chips, is also doing nicely today, and anything with an AI link is seeing bids. This recalls the dotcom phenom, and we know how that turned out. So the broader point remains … at minimum we can still say one theme is supporting the whole works. However bright AI’s future, it’s still a very long way from growing food, building homes, roads, cars, generating the power to fuel them, etcetera. The stocks of companies that actually do those things are being left in the dust.

Those who follow stock market breadth as a measure of underlying strength are not finding it.

5 thoughts on “Anorexia Nervosa

  1. Bill Terrell says:

    An excellent piece by Lance Roberts expands on the discussion about stock valuations:

    The AI Revolution. A Repeat Of History.

    I especially like the dotcom era quote from Sun Microsystems CEO Scott McNeely:

    “At 10 times revenues, to give you a 10-year payback, I have to pay you 100% of revenues for 10 straight years in dividends. That assumes I can get that by my shareholders. It assumes I have zero cost of goods sold, which is very hard for a computer company. That assumes zero expenses, which is really hard with 39,000 employees. That assumes I pay no taxes, which is very hard. And that assumes you pay no taxes on your dividends, which is kind of illegal. And that assumes with zero R&D for the next 10 years, I can maintain the current revenue run rate. Now, having done that, would any of you like to buy my stock at $64? Do you realize how ridiculous those basic assumptions are?”

    These ridiculous valuations might be chalked up to what Keynes called “animal spirits” (hat tip to Milton Kuo). Another way of looking at it is inflation, manifest in the world of assets. To paraphrase Milton Friedman, too much money chasing too few assets.

    Just a quick illustration that 160 or 2500 years is a very long time to assume nothing will go wrong. The stock of Intel, the chip maker that powered the personal computing revolution, today sells for about a third of its June 2000 price.

    Too much money chasing too few assets.

  2. jk says:

    i love that mcneely quote, too. but iirc he said it well after sun was past its peak.