Recessions and War Give Rise to Tomorrow's Technology Giants
Global Emerging Technology Institute
It is estimated that nearly $7 trillion in market capitalization was destroyed in the U.S. Yields on cash and treasuries are paying the lowest yields in 40 years. The "housing boom" most likely will turn out to be another bubble. The debt to income ratio for the top 1/5 income earners in the U.S. is close to 120% now. In other words, the debt levels of the wealthiest people in the U.S. have increased to unprecedented levels. This borrowing is going on apparently in order to maintain lifestyles that were developed during the bubble period. Pessimism in the market continues, as the parade of bad news regarding missed corporate earnings targets, scandals, and the threat of war with Iraq take its toll on investor confidence. A strike at the docks in California and the inability to push through substantive reforms and implement them in Japan has led to a precipitous fall in the Nikkei average as it recently broke the 9,000 mark. Public and private companies are having a very difficult time explaining earnings results, forecasts and an equally difficult time raising new money. Clearly, we are entering into a period right before more bad news brings the markets down to levels where buying opportunities will finally arise. Lower valuations and a large number of quality, though under-capitalized, companies will present great opportunities to invest in new technology leaders.
Naturally, these are hard times for technology start-ups. Many companies are struggling to raise funds, even those they may arguably deserve them. One CEO of a MEMS technology start-up recently lamented about the proliferation of frequent flyer miles he has accumulated due to the need to visit so many potential investors just to close a round of financing of less than $1 million. The soured public market has led to the drying up of private equity funds available to growing technology companies. Venture capital firms and angel groups are very conservative as their limited partners put pressure on them to return money and become more transparent and public about short-term results. The irony is that it is clearly the best time for investors to invest in an asset class that is more mature and that has clearly outperformed all other major asset classes including large cap and small cap US stocks and international equities over the past 30 plus years. It has been pointed out that the Dow Jones Industrial Average took over 25 years in order to recover from the 1929 stock market crash. In response to the increased risk in the market for public equities, a growing number of large institutional investors and high net worth individuals are increasingly turning to alternative assets in order to balance their portfolios and reduce the risk of investing in public equities. This trend started before the bursting of the bubble as several alternative asset classes began to mature and restrictions on large institutional portfolios (i.e. those where there was a fiduciary obligation to make less risky investments) were lifted. For example, more pension funds began to raise their allocation to venture capital funds in order to take advantage of the high returns. According to the Journal of Portfolio Management, over a 30-year period since the early 1960's, venture capital was by far the best performing asset class with average returns of 45%.
This shift of interest by investors will eventually bode well in the near future for promising technology start-up companies and take the pressure off of VCs, encouraging to invest more. It is hard to believe that they will sit on the sidelines for long considering the increasingly favorable valuations that will continue to be available until the markets recover and some of the exciting new emerging technologies.
It can be argued that some of the most profitable, innovative companies are established immediately prior or during war or during a recession or depression. Many of Japan's leading electronics and communications firms were established immediately prior to and during WWII, and the war gave birth to R&D initiatives that served as the foundation of the modern aerospace industry. No one likes wars or recessions, but it appears that both do stimulate new technology development, often out of desperate necessity. The prolonged U.S. recession has led savvy U.S. investors to take note of the above and those that place their bets now will be the big winners in the future. In the U.S., many of the country's leading technology companies were started during a recession or depression. These firms were forced to be more prudent in their decision making, thriftier and more committed to making sure their business survived. These companies include GE, Ford, Disney and Hewlett Packard, which all got their start during recessionary periods at the end of the 19th and beginning of the 20th centuries. In more recent times, recessions of the 1970s and 1980s gave rise to Intel, Microsoft, Sun Microsystems and Compaq. It appears that there is some type of loose positive correlation between rising anxieties about an unstable economy and the rise of new technologies and new industries that served as the foundation for the next economic boom. This will happen once again in the near future. It can be argued that over the next 10-20 year period, new technologies will not only present unprecedented investment opportunities but also will create a greater boom than the last one.