The economics of tech stocks
I think this is interesting!
I don’t usually write about stock valuations but I wanted to mention what’s going on with tech stocks at the moment, because it feels important.
Tech sector overview
The tech sector has been driving growth and optimism in the stock market globally, because of acquired value and hype over the last twenty-ish years (which gave us companies like Amazon and Alphabet (Google)) and tech innovations (like tech for AI processing).
There’s a sense (investor vibes) that maybe tech stocks were overvalued, and so they are starting to come down in value. This means that maybe a few weeks ago, your holding of [Tech Company Name] stock would have been higher than it is today.
It doesn’t mean that the stock will keep going down (i.e. that you should sell it), but there’s a level of moderation kicking in with the tech hype bubble.
What happens in tech companies
Tech companies typically raise a lot of money, then spend it on hiring lots of people (while racing to hit the growth numbers they made up and told investors they’d hit), then raise more money - and continue, until they reach profitability and/or ‘exit.’
What’s an exit? It’s an acquisition by another company, or an IPO (i.e. going public). At this point, the shares in the company become liquid (i.e. you can sell them!). And this is when the initial investors make their money.
A big problem is that companies aren’t exiting. So investor money is tied up in these companies - and they are desperate to make a return on their investments.
Bad times for tech company investors - the venture capitalists (“VCs”)
Venture capitalists are wealthy, but they’re not the people with the big money. A venture capital fund is funded by those with the big money. In addition to making investments, VCs also have to raise money for their own funds.
So, in the meantime, investors also can’t raise money from their investors. Why would I, as a wealthy family office, put more money into another fund, when the previous one didn’t return anywhere near as much as it was supposed to, in the time period we agreed to?
It’s why there’s less money going into new investments. Why investors are more desperate than ever to find the one ‘billion dollar company;’ the next NVIDIA, or incredible innovation, that will ‘return the fund.’ And why, I would expect, they’ll double down on investing in the types of founders who fit the mould of ‘tech successes’ - the hoodie wearing, genius-type white male.
Cool, so what about the current cohort of tech companies?
Funded companies are also going to be in trouble. Their runway (i.e. their cashflow) is nearing its end. Runway typically works in tranches; you raise an amount to get you to a set of milestones then, once you hit them, you raise the next amount.
But what happens when the funding dries up? When investors’ expectations about those milestones change from being focused on growth (i.e. acquiring customers despite the high costs of acquisition) to profitability (i.e. are you making money yet).
You need to extend your runway - and this comes from cutting cots (i.e. making layoffs; people are usually the biggest cost).
People are the economy
If loads of companies make layoffs, as they have been over the last few years, you’ve got a massive surplus of tech talent - which can’t get back into the high earning (overpaid) roles they were previously in. Which affects the wider labour market, but also the economy generally - since they’re going to be spending and borrowing less.
Investors aren’t having much fun
You can also go to investors (both existing and new ones) and ask them to plug in more capital. But this capital will come at a cost; a lower company valuation, typically (known as a down round). This is bad news, but sometimes is your only option to keep the company afloat, and the investors’ only option to try to make the money back they’ve already invested. Perhaps this renewed focus on profitability will make the company unlock a new innovation or market, the valuation goes back up, and an exit finally happens.
Bubbles and balloons
It’s not a tech bubble that’s bursting, but more a balloon that’s deflating a little bit. And the balloon was overinflated to begin with. But the balloon has massive knock on effects, so it’s a big deal.
[I thought this would be a short note, but wow, it went a bit longer than I thought! Would LOVE to hear your thoughts.]
1. The UK interest rate was cut for the first time in almost four years
On Wednesday, the Bank of England cut the base interest rate by 0.25%, bringing the rate to 5%.
Over the last (almost) four years, due to rising inflation (and irresponsible management of the economy), rates have been increasing.
So it’s big news. The hope is that this will lead to a slight increase in (slightly cheaper) borrowing, and that consumer confidence (aka vibes, cc
) will pick up.A friend who’s selling their house told me their estate agent’s phones were ringing like crazy straight after the rate cut happened! Many have been waiting to buy or sell until this event, and, now, it’s all systems go.
The Governor of the Bank of England says he wants to avoid cutting “too quickly or by too much.” So it’s highly unlikely there will be another cut soon.
That said, there won’t be an immediate impact felt by individuals. It’s akin to forcing a giant tanker ship to change course. You can’t make the change quickly. Change will happen gradually. But the new course has been set, so let’s see how we go.
Across the pond, the US’ Federal Reserve (aka the Fed) decided not to cut rates this month, but it’s likely that it will make a cut next month.
2. What’s going on with the Winter Fuel payments cut?
The Government has scrapped the Winter Fuel Payment:
Its’s an annual tax-free payment for pensioners designed to help you cover heating costs in the colder months. How much they receive depends on age and personal circumstance.
The Winter Fuel Payments are worth around £200 - or £300 for those on Pension Credit - and are usually paid in November and December to around £13 million eligible pensioners.
Only those on means-tested benefits (i.e. they’re receiving other benefits that they’re eligible to receive, based on their circumstances, according to a test that proves that they ‘really’ need the money) will still get the credit
“The standard rate of the new state pension is £221.20 per week whilst the standard rate of pension credit for a single person is currently £218.15 per week. This means people on the standard new state pension will be just over £3 per week over the limit and will lose all of their Winter Fuel Payment.”
An estimated 2 million pensioners '“who badly need the money to stay warm this winter will not receive it and will be in trouble as a result."
3. For every £10 in your pension, £2 is (likely) linked to deforestation
Watch this…
😢😢😢
Global rainforest loss continued at a rate of 10 football pitches per minute in 2023
Profit today is being prioritised over long-term impact on the planet, because this is the metric against which pensions funds are measured
Check to see what your pension is invested in - and opt for ESG-positive funds if you can (and care about this)
ESG funds do contain some greenwashing but, short of becoming a pension fund manager yourself, this is kinda the only action you can take as an individual
In addition to making noise, writing to your pension provider, writing on the Internet etc…
✨ Other things! ✨
MONEY
YOLO; 1 in 5 people say they spend whatever amount they like as soon as they’ve left home for their holiday.
LIFE
Haircare is getting the multi-step and multi-product treatment; Blake Lively’s the next to do it.
E.l.f. Beauty is 20 years old & more relevant than ever (scroll past the links to read the article).
Elyanna on artists: “We should speak our minds and spread love and spread a message that means something.”
The ‘boxing controversy’: Women keep being thrust into this nightmare media circus around their so-called ‘true identity.’
Happy August! It’s still summer, as I was reminded this week. There is lots more summer to come. I’m making a concerted effort to enjoy it, I hope you are too ☀️
Know someone who would enjoy this in their inbox on a Sunday morning?
thanks for sharing!!