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A bubble is made from more than insane valuations - it requires a thorough delusion about the inherent value of the asset-class that's the source of the bubble.

A bubble is made from more than insane valuations - it requires a thorough delusion about the inherent value of the asset-class that's the source of the bubble. In the dotcom bubble, anyone that did anything online was considered infinite revenue potential, even if they had no revenue and no business plan. In the mortgage bubble, no-one had the fantasy to imagine the real-estate market going down on the whole. The ratings agencies' worst-case scenario was zero-growth. It's obvious in hindsight, but apparently it wasn't in the present. While there are isolated instances of on-the-face bizarre valuations, such as Instagram or color.com, the prevailing actors in the market are actually making money. In other words, if this bubble pops, who will loose out? Will it have catastrophic consequences for the economy at large?

philwelch 15y ago
The problem is that even the strong, viable firms have insane valuations. A lot of them are great companies, they're just overvalued. Take Facebook--$100 billion valuation, more than Unilever, Anheuser-Busch, Amazon, McDonalds, or Cisco. Seriously?
- dasil003 15y ago
  Welcome to the information age. Facebook has orders of magnitude more information about nearly everyone than those companies. There's no predicting how much they can profit from it yet. Facebook's valuation represents that unknown upside combined with an upward trajectory. The valuation may or may not turn out to be overly high right now, but it's by no means insane.
  - CompiledCode 15y ago
    I don't know... Data in itself is not valuable, you have to be able to monetize it. How much is it worth to know everything about a 20-something buried under a mountain of student loans, who is not inclined to buy expensive furniture, stereo systems, or cars anytime soon? Hundreds of dollars? Really? Add to that that the tech trendsetters and early adopters are not enthusiastic supporters of facebook anymore and seem ready to jump on the next big thing. When I read the story yesterday about the company wishing to mine data how many people have sex in the bathroom after hooking up through the site, I figured this whole obsessive data collection thing has jumped the shark a bit. Maybe it makes sense for the moment - as in the absence of revenues, user profiles attracts VC - but it does remind me a lot of the bubble in early 2000.
    - sokoloff 15y ago
      A great many 20-somethings ARE in fact inclined to buy expensive furniture, stereo systems and cars. Whether they should be or not, in your and my opinion, is not germane to the value that they have because of the fact that they are.
    - dasil003 15y ago
      They are monetizing it. No one knows how far they can push it and what additional data they can acquire. They are actively working to change privacy norms on a cultural level. To declare unilaterally that Facebook is overvalued is a failure to see what's happening right before you. Note that I'm not saying it isn't overvalued, but just that Facebook is making money today, and they have a lot of upside that no other company has right now.
  - philwelch 15y ago
    The problem with arguments like yours is that they're so full of handwaving and vagueness that there's no obvious connection back to the only question that matters: how does a business make money? How does Amazon make money? I give them money, and then they ship me a book, or download me a book, or deliver me some groceries, or spin me up a server, or ship me a Mac, or handle my fulfillment if I'm selling stuff, or a million other things, most of them in sectors like retail and logistics that are proven cash cows. How does Facebook make money? I give them money and they show targeted advertisements to people who mostly proceed to ignore them. What? How is that worth more? I'm not saying it's worthless, in fact the entire point of my argument is that even viable businesses like Facebook are overvalued. I'm just saying it is overvalued. You say there's upside, but if you take all the upside in their current business model and make the entire world population Facebook users, it still doesn't add up. So then what? There's upside in expansion, perhaps, except that's limited because of brand perception and reputation--Facebook's reputation is comparable to that of cable providers and governments, which scuppers any expansion into mobile, for instance. But then you have to balance against downside, and current valuations seem to be ignoring that.
    - dasil003 15y ago
      > How does Amazon make money? How does Google make money? Human data is big business. > You say there's upside, but if you take all the upside in their current business model and make the entire world population Facebook users, it still doesn't add up. Talk about hand-waving. Have you actually done this? Anyway, the burden is not on me to prove how Facebook's revenues can justify their market cap. They are still growing, and they're control over key portions of the internet is still increasing. There is absolutely no justifiable reason to believe that their current advertising model is their endgame. Google is obviously scared shitless of them enough to completely retool their entire strategy, and they are not exactly small potatoes. I'm not running out to buy Facebook stock, but I think if you want to dismiss Facebook's valuation you need a stronger argument than "their current ad revenue doesn't scale".
      - philwelch 15y ago
        > How does Google make money? Targeted advertising on search queries. Notably, people don't tend to ignore that quite as much. Google is probably overvalued on their current business model too, but they don't have the reputation hit that Facebook does, and they do have the engineering talent to diversify. For instance, licensing software to build self-driving cars would also be lucrative. Google Glass would be lucrative as well. > Talk about hand-waving. Have you actually done this? OK, looking back, I overstated it a bit. Facebook's valuation makes sense if the entire world population were active Facebook users, but almost only then. The most optimistic projection for Facebook's revenue is 5B for 2012, on less than 1 billion active users. Population of the Earth is just less than 7 billion. So let's magically sign almost all of them up for Facebook; that's 35B revenue, which is roughly a third of their valuation. (Well, not really--they aren't going to be as affluent as Facebook's current American and European users, so it won't be as lucrative to advertise to them.) Apple's annual revenue is about a sixth of their valuation. But Apple has a successful history of growing significantly new product categories, having introduced three in the last ten years. And Facebook doesn't have the entire world population signed up yet--presumably if they did, their valuation would rise more. > Anyway, the burden is not on me to prove how Facebook's revenues can justify their market cap. So it's up to me to prove a negative then? > They are still growing, and they're control over key portions of the internet is still increasing. There is absolutely no justifiable reason to believe that their current advertising model is their endgame. Google is obviously scared shitless of them enough to completely retool their entire strategy, and they are not exactly small potatoes. > I'm not running out to buy Facebook stock, but I think if you want to dismiss Facebook's valuation you need a stronger argument than "their current ad revenue doesn't scale". More handwaving. Google became an advertising company twelve years ago and that's still the bulk of their business. Is Facebook somehow more likely than Google to build a new revenue stream in a shorter period of time? Are they more likely than Amazon to build new revenue streams, when Amazon has consistently and repeatedly done just that for 18 years? There's a lot of upside open to Facebook, and nearly all that upside is priced into their stock. But there's also a lot of downside, none of which is priced in. Which is probably the defining characteristic of a bubble valuation.
jonnathanson 15y ago
"In other words, if this bubble pops, who will loose out? Will it have catastrophic consequences for the economy at large?" Bubbles aren't defined solely by the extent of their damage post-pop. They're defined by the delta between bubble valuation and real value. In admittedly simplistic terms: the size of that delta, multiplied by the number of people who buy into it, usually dictates the impact of the burst. Right now, we're arguably in the early stages of a bubble. Almost everyone admits that startup valuations, not to mention a few recent, high-profile IPOs (Groupon in particular) are inflated. Money is easy. I'd argue that today's operative question isn't "by how much are valuations inflated," but rather, "how many people are buying into them?" And where will the contagion spread from here? We have a few troubling indicators. Celebrities like Ashton Kutcher are leaping into the angel and VC scene. I have nothing against Ashton Kutcher, but I do question his fundamental grasp of the technology business. And I wonder whether his sloshing easy money around the startup world is inherently constructive or destructive to rational valuations within that world. Furthermore, Ashton's just the tip of the iceberg. CAA, Hollywood's leading Hollywood talent agency, is launching a VC arm focused on tech companies. Precisely what a Hollywood talent agency understands about tech firms is anyone's guess -- but CAA has more money than God, is extremely well connected to investment banks and hedge funds, and could serve as a bridge to the general public's interest in tech equity. (We'll recall that the 1999-era bubble was marked by a similar influx of carpetbagging investors from outside the tech industry). People often point out that the frothy tech startups of 2012 are fundamentally unlike the frothy tech startups of 1999, in as much as 1999's startups went IPO, and today's startups generally get acquired. This is fair. But in both cases, investment money became (is becoming) very easy and very loose. This leads to a propagation (and propping up) of fundamentally unsound startups. History indicates that, eventually, there can be so many bad apples in the batch that people stop being able to tell the good ones from the bad ones. That's when the trouble begins. We're not there yet, but why wait around and let it happen?
- dgildeh 15y ago
  Some really good points there, especially about the Celebrity investors, who would have thought Ashton Kutcher was in the know how about all this stuff?! For me there's usually a trigger, which I think Instagram was, with some justification as to why this time its different, which for me is Cloud. The Cloud has triggered some early successes from really small teams which is only going to excite investors and founders more to launch even more start-ups which will inevitably lead to more weak ideas and a self inflicted bubble of selling to the greater fool once they realize half the new start-ups aren't going anywhere...

philwelch 15y ago

The problem is that even the strong, viable firms have insane valuations. A lot of them are great companies, they're just overvalued. Take Facebook--$100 billion valuation, more than Unilever, Anheuser-Busch, Amazon, McDonalds, or Cisco. Seriously?

dasil003 15y ago
Welcome to the information age. Facebook has orders of magnitude more information about nearly everyone than those companies. There's no predicting how much they can profit from it yet. Facebook's valuation represents that unknown upside combined with an upward trajectory. The valuation may or may not turn out to be overly high right now, but it's by no means insane.
- CompiledCode 15y ago
  I don't know... Data in itself is not valuable, you have to be able to monetize it. How much is it worth to know everything about a 20-something buried under a mountain of student loans, who is not inclined to buy expensive furniture, stereo systems, or cars anytime soon? Hundreds of dollars? Really? Add to that that the tech trendsetters and early adopters are not enthusiastic supporters of facebook anymore and seem ready to jump on the next big thing. When I read the story yesterday about the company wishing to mine data how many people have sex in the bathroom after hooking up through the site, I figured this whole obsessive data collection thing has jumped the shark a bit. Maybe it makes sense for the moment - as in the absence of revenues, user profiles attracts VC - but it does remind me a lot of the bubble in early 2000.
  - sokoloff 15y ago
    A great many 20-somethings ARE in fact inclined to buy expensive furniture, stereo systems and cars. Whether they should be or not, in your and my opinion, is not germane to the value that they have because of the fact that they are.
  - dasil003 15y ago
    They are monetizing it. No one knows how far they can push it and what additional data they can acquire. They are actively working to change privacy norms on a cultural level. To declare unilaterally that Facebook is overvalued is a failure to see what's happening right before you. Note that I'm not saying it isn't overvalued, but just that Facebook is making money today, and they have a lot of upside that no other company has right now.
- philwelch 15y ago
  The problem with arguments like yours is that they're so full of handwaving and vagueness that there's no obvious connection back to the only question that matters: how does a business make money? How does Amazon make money? I give them money, and then they ship me a book, or download me a book, or deliver me some groceries, or spin me up a server, or ship me a Mac, or handle my fulfillment if I'm selling stuff, or a million other things, most of them in sectors like retail and logistics that are proven cash cows. How does Facebook make money? I give them money and they show targeted advertisements to people who mostly proceed to ignore them. What? How is that worth more? I'm not saying it's worthless, in fact the entire point of my argument is that even viable businesses like Facebook are overvalued. I'm just saying it is overvalued. You say there's upside, but if you take all the upside in their current business model and make the entire world population Facebook users, it still doesn't add up. So then what? There's upside in expansion, perhaps, except that's limited because of brand perception and reputation--Facebook's reputation is comparable to that of cable providers and governments, which scuppers any expansion into mobile, for instance. But then you have to balance against downside, and current valuations seem to be ignoring that.
  - dasil003 15y ago
    > How does Amazon make money? How does Google make money? Human data is big business. > You say there's upside, but if you take all the upside in their current business model and make the entire world population Facebook users, it still doesn't add up. Talk about hand-waving. Have you actually done this? Anyway, the burden is not on me to prove how Facebook's revenues can justify their market cap. They are still growing, and they're control over key portions of the internet is still increasing. There is absolutely no justifiable reason to believe that their current advertising model is their endgame. Google is obviously scared shitless of them enough to completely retool their entire strategy, and they are not exactly small potatoes. I'm not running out to buy Facebook stock, but I think if you want to dismiss Facebook's valuation you need a stronger argument than "their current ad revenue doesn't scale".
    - philwelch 15y ago
      > How does Google make money? Targeted advertising on search queries. Notably, people don't tend to ignore that quite as much. Google is probably overvalued on their current business model too, but they don't have the reputation hit that Facebook does, and they do have the engineering talent to diversify. For instance, licensing software to build self-driving cars would also be lucrative. Google Glass would be lucrative as well. > Talk about hand-waving. Have you actually done this? OK, looking back, I overstated it a bit. Facebook's valuation makes sense if the entire world population were active Facebook users, but almost only then. The most optimistic projection for Facebook's revenue is 5B for 2012, on less than 1 billion active users. Population of the Earth is just less than 7 billion. So let's magically sign almost all of them up for Facebook; that's 35B revenue, which is roughly a third of their valuation. (Well, not really--they aren't going to be as affluent as Facebook's current American and European users, so it won't be as lucrative to advertise to them.) Apple's annual revenue is about a sixth of their valuation. But Apple has a successful history of growing significantly new product categories, having introduced three in the last ten years. And Facebook doesn't have the entire world population signed up yet--presumably if they did, their valuation would rise more. > Anyway, the burden is not on me to prove how Facebook's revenues can justify their market cap. So it's up to me to prove a negative then? > They are still growing, and they're control over key portions of the internet is still increasing. There is absolutely no justifiable reason to believe that their current advertising model is their endgame. Google is obviously scared shitless of them enough to completely retool their entire strategy, and they are not exactly small potatoes. > I'm not running out to buy Facebook stock, but I think if you want to dismiss Facebook's valuation you need a stronger argument than "their current ad revenue doesn't scale". More handwaving. Google became an advertising company twelve years ago and that's still the bulk of their business. Is Facebook somehow more likely than Google to build a new revenue stream in a shorter period of time? Are they more likely than Amazon to build new revenue streams, when Amazon has consistently and repeatedly done just that for 18 years? There's a lot of upside open to Facebook, and nearly all that upside is priced into their stock. But there's also a lot of downside, none of which is priced in. Which is probably the defining characteristic of a bubble valuation.

jonnathanson 15y ago

"In other words, if this bubble pops, who will loose out? Will it have catastrophic consequences for the economy at large?" Bubbles aren't defined solely by the extent of their damage post-pop. They're defined by the delta between bubble valuation and real value. In admittedly simplistic terms: the size of that delta, multiplied by the number of people who buy into it, usually dictates the impact of the burst. Right now, we're arguably in the early stages of a bubble. Almost everyone admits that startup valuations, not to mention a few recent, high-profile IPOs (Groupon in particular) are inflated. Money is easy. I'd argue that today's operative question isn't "by how much are valuations inflated," but rather, "how many people are buying into them?" And where will the contagion spread from here? We have a few troubling indicators. Celebrities like Ashton Kutcher are leaping into the angel and VC scene. I have nothing against Ashton Kutcher, but I do question his fundamental grasp of the technology business. And I wonder whether his sloshing easy money around the startup world is inherently constructive or destructive to rational valuations within that world. Furthermore, Ashton's just the tip of the iceberg. CAA, Hollywood's leading Hollywood talent agency, is launching a VC arm focused on tech companies. Precisely what a Hollywood talent agency understands about tech firms is anyone's guess -- but CAA has more money than God, is extremely well connected to investment banks and hedge funds, and could serve as a bridge to the general public's interest in tech equity. (We'll recall that the 1999-era bubble was marked by a similar influx of carpetbagging investors from outside the tech industry). People often point out that the frothy tech startups of 2012 are fundamentally unlike the frothy tech startups of 1999, in as much as 1999's startups went IPO, and today's startups generally get acquired. This is fair. But in both cases, investment money became (is becoming) very easy and very loose. This leads to a propagation (and propping up) of fundamentally unsound startups. History indicates that, eventually, there can be so many bad apples in the batch that people stop being able to tell the good ones from the bad ones. That's when the trouble begins. We're not there yet, but why wait around and let it happen?

dgildeh 15y ago
Some really good points there, especially about the Celebrity investors, who would have thought Ashton Kutcher was in the know how about all this stuff?! For me there's usually a trigger, which I think Instagram was, with some justification as to why this time its different, which for me is Cloud. The Cloud has triggered some early successes from really small teams which is only going to excite investors and founders more to launch even more start-ups which will inevitably lead to more weak ideas and a self inflicted bubble of selling to the greater fool once they realize half the new start-ups aren't going anywhere...