By mid-2012 the US economy had recovered all of the real GDP lost during the Great Recession and actually stood 3% above its pre-crisis level, while more than 55% of the 8.5 million jobs lost during the downturn had also been recovered. At that point, American capitalism was on a sustainable natural expansion path and didn’t need any training wheels or more “stimulus” from the Fed.
Nor for that matter did Wall Street. The total market cap of the Wilshire 5000 stood at $14.5 trillion, which represented 87% of GDP—the same level which had been recorded at the time of Greenspan’s irrational exuberance moment in December 1996 and only slightly above the 80% level of August 1971.
Likewise, the S&P 500 stood at 1360 against a LTM net income level of $87 per share. The implied PE multiple of 15.5X was right down the fairway of history.
Even the market cap of the FANGMAN (Facebook, Apple, Netflix, Google, Microsoft, Amazon and NVIDIA) made sense at $1.16 trillion. That accounted for just 8.3% of the total Wilshire market cap of all publicly traded US equities, while the group’s PE multiple weighed in at a sensible 15.5X the group’s combined net income of $75 billion.
In a word, it was time for the Eccles Building to cool its jets at the printing presses and let financial markets and interest rates normalize. After all, during the previous four years Bernanke had taken the Fed’s balance sheet from $890 billion to $2.9 trillion and pushed virtually the entire yield curve below the prevailing rates of inflation.
In fact, when it came to the benchmark security of the entire financial system—the 10-year UST—the yield in June 2012 stood at just 1.60% when the YoY CPI had risen by 1.65%. Since market driven price discovery is crucial to long-term capitalist growth, it was more than past time to enable investors to earn a meaningful real return on long-term savings and make Wall Street an honest casino again.
Needless to say, the camarilla of Keynesian professors and government apparatchiks then running the Fed–including Bernanke, Yellen, Powell and Bullard, among others—was not about to let well enough alone or even give a nod to earlier generations of central bankers, who would have been ready to remove the punch bowl by mid-2012.
Instead, they doubled down. During the next nine years they found one invalid excuse after another—including the 2020 Covid-lockdowns which were strictly a supply-side affair wholly outside the Fed reach or remit— to run the printing presses red hot. In all, they added $5.2 trillion to the Fed’s balance sheet, when virtually no expansion was warranted after Bernanke’s so-called emergency infusions of Fed credit during the Great Recession.
That is to say, they should have averaged down and shrunk the balance sheet back to a normalized level as Bernanke actually promised at the time, and newly arrived Fed head Jay Powell had publicly insisted upon. And by normal we mean about $1 trillion, which would have more than allowed for the standard 3-4% per annum growth Uncle Milton Friedman had called for during normal times.
Alas, the indicated balance sheet shrinkage became, instead, a 12.2% growth rate—-by far the highest level ever posted for a nine-year period, even during the inflationary 1970s. Yet even by the macroeconomic standards of these Keynesian witch doctors, the result was a bust. The nine-year real GDP growth rate came in at just 2.0% per annum, representing the lowest decadal growth rate in modern history.
So even as the Fed heads rattled on about labor markets and improving growth rates, they studiously ignored the obvious question. That is, where was all that 12.2% per year fiat credit going if only 2% main street expansion was coming out the other end?
The Fed has no clue, of course, but a serviceable answer would be to say that most of it flowed into the great Wall Street money sump as embodied in the relentless inflation of financial asset prices.
In quantitative terms, you need look no further than the market cap of the Wilshire 5000, which rose from $14.1 trillion in June 2012 to $45.8 trillion at present. As it happened, that stupendous $31.8 trillion gain in the market cap of equities was coupled with a $3.0 trillion gain in real GDP over the same nine-year period ending in June 2021.
As the man says, you can’t make this stuff up. The stock market rose by 10X more than real GDP because in a world anchored by the Great Chinese Deflation, there was no place for excess liquidity and the speculative juices it engenders to manifest themselves except in the stock market.
Stated differently, during that nine-year period of lunatic money-pumping, the Wilshire 5000 market cap soared from 87% to 200% of GDP for no earthly reason related to income, profits, growth prospects or other main stream fundamentals. What drove the market to current nose-bleed heights was a purely central bank fueled speculative mania and PE multiple expansion that is without any plausible foundation.
That much is more than evident in the seven FANGMAN stocks that stand at the heart of the mania. Their market cap now stands at $9.9 trillion and the LTM net income posted for June 2021 by the group weighed-in at $289 billion.
Thus, the nine-year growth rate computes to 16.2%, even as the implied PE multiple for the seven companies has soared to 34.6X. Moreover, when you remove Apple Inc. from the composite, the implied PE multiple for the other six companies as of the June 2021 LTM is 37.0X.
But here’s the thing. The net income of the six FANGMAN excluding Apple Inc. rose from $36.5 billion to $202 billion or by 21% per annum over the nine year period. There is not a snowball’s chance in the hot place, however, of that being duplicated again during the next nine years. That’s because the overwhelming share of the gains represented one-time shifts of advertising from legacy media to Google and Facebook, brick and mortar retail sales to Amazon and the migration of computer power from standalone boxes to the cloud dominated by Microsoft and Amazon’s AWS.
For instance, between 2000 and 2020, the total global ad spend rose from $471 billion to $587 billion, representing a modest growth rate of 1.1% per annum over the course of two full business cycles. More recently, the ad spend growth rate between 2012 and 2020 was not much stronger at 2.4% per annum—and we are here talking about nominal reported dollars, not inflation-adjusted ones.
By contrast, the combined net income of Google and Facebook rose from $11 billion to $102 billion or by 28% per annum during the same nine year period. The 10X higher growth rate reported by the on-line advertising giants versus total ad spending is flat-out impossible to duplicate during the years ahead.
That’s because the sheer math is prohibitive. During 2020 on-line advertising accounted for 54.3% of the total global ad spend or about $320 billion, most of which was accounted for by Google and Facebook. The balance consisted of $152 billion for TV, $32 billion for newspapers, $29 billion for billboards, $26 billion for radio and $18 billion for magazines.
Consequently, if overall ad spending rises by another 2.2% per annum over the next eight years and digital ads manage to steal another 50% of the $263 billion that went to legacy media in 2020, total digital ad spending would amount to just $560 billion by 2028—assuming no recessions or other economic dislocations. Yet that’s just a 7.0% per annum growth rate of barely one-fourth of what Google and Facebook posted on the net income line over the last nine years.
And, of course, that’s to say nothing of potential financial setbacks owing to the regulatory pincer movement from both left-wing and right-wing political quarters aimed at the two ad-based social media giants. In short, the odds of 28% profits growth being perpetuated indefinitely are somewhere between slim and none.
As we will amplify in Part 3, the same kind of one-time growth considerations apply to the other members of FANGMAN, as well. And none of these undeniable roadblocks to perpetual high growth are a state secret. They are simply being ignored by a casino hopped-up on the Fed’s flood of liquidity where Wall Street speculators and homegamers alike have come to embrace the “low interest rates justify super-high PEs” canard and jump eyes-wide-shut onto the band wagon of “growth” at any price.
As a result, the market cap of these seven momo stocks soared to a recent peak of $10 trillion. That staggering $9 trillion gain happens since mid-2012 accounts for nearly 30% of the entire gain of all the stocks in the Wilshire 5,000 during that period.
So, yes, the stock market is an accident waiting to happen and the seven FANGMAN in particular have been the sump into which the Fed’s massive liquidity emissions have been heavily concentrated. For reasons we will amplify in Part 3, however, the group as a whole actually merit a PE multiple no higher than the 16X level which prevailed back in mid-2012 before the Fed jumped the shark with an unprecedented money-pumping spree. That’s because all seven are heading hard upon the iron law of GDP-bound growth.
The degree to which the casino’s speculative mania has been concentrated in the FANGMAN can also be seen by contrasting them with the other 493 stocks in the S&P 500. To wit, the market cap of the index as a whole rose from $12.2 trillion in June 2012 to $36.3 trillion at present, meaning that the seven FANGMAN account account for 38% of the entire gain.
Stated differently, the market cap of the other 493 stocks rose from $11.1 trillion to $26.4 trillion or by 2.4X during that 9 year period compared to the 9.0X gain by the FANGMAN.
Moreover, if this concentrated $9.0 trillion gain in the seven go-go stocks of the present era sounds familiar that’s because this rodeo has been held before. To wit, the Four Horseman of Tech (Microsoft, Dell, Cisco and Intel) at the turn of the century saw their market cap soar from $850 billion to $1.65 trillion or by 94% during the manic months before the dotcom peak.
At the March 2000 peak, Mr. Softie’s PE multiple was 60X, Intel’s was 50X and Cisco’s hit 200X. Those nosebleed valuations were really not much different than Facebook today at 30X, Amazon at 68X, Netflix at 54X and NVIDIA at 96X.
The truth is, even great companies do not escape drastic over-valuation during the blow-off stage of bubble peaks. Accordingly, Cisco’s peak market cap of $525 billion had plunged to just $75 billion two years later. And the Four Horseman as a group had shed $1.25 trillion or 75% of their valuation.
More importantly, this spectacular collapse was not due to a meltdown of their sales and profits. Like the FANGMAN today, the Four Horseman were quasi-mature, big cap companies that never really stopped growing, even as their rate of expansion downshifted sharply.
For example, Cisco’s revenues have increased from $15 billion to $55 billion annually during the last 21 years and its net income has tripled to $10 billion. Yet Cisco’s market cap today is just $234 billion or only 47% of its two-decades ago bubble peak.
The reason, of course, is PE normalization. In this case, the company’s hideously inflated 200X PE multiple imploded with the tech crash and now stands at 23X.
At the end of the day, valuations do matter, and that’s why the valuation of the very highest-flyer of the present bubble cycle, Amazon, is so hideously excessive.
For reasons we will outline in Part 3, we seriously doubt that it will ever post earnings remotely consistent with its current $1.7 trillion market cap. That’s because eCommerce is not a profit maker, and the overwhelming share of Amazon’s modest earnings of $29 billion on $443 billion of sales are due to its AWS cloud business—a classic case of a one-time shift of technology that will soon reach its GDP-anchored limits.