ENTREPRENEUR

This is a re-posting of an article from Intigril, my site on investing, trading, and personal finance. To view the original article on Intigril, click here.

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Introduction

Buying stocks for the long-term isn’t easy.  In fact, most professionals, academics, and really anyone that knows about investing would probably tell you to buy a basket of mutual funds instead.  It’s easier, more diversified, and considered to be safer.  That, combined with the fact that there are literally thousands of highly paid professionals whose whole reason for being is to research and invest in stocks, means that you’ll be fighting uphill the whole way.  In fact, there’s a whole branch of finance taught in most schools whose sole purpose is to prove that you cannot consistently outperform the market as a stock-picker.

But with all that said, you may still want to learn about how to research and analyze individual stocks.  After all, you may be just as good as all those guys working on Wall Street, and if you’re dedicated, don’t get greedy, and follow some simple rules, you can definitely achieve lasting success.

No single article can turn you into an expert stock investor, but in this article I’ll try to hit some of the most important points, hoping you will continue your research and, eventually, start generating some steady returns.

Diversification

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The most important concept in investing is risk management.  Before I even bring up any ideas on analysis or research, there’s one thing you need to always remember, and that is to diversify.  There are few things worse than having one bad pick wipe out half your portfolio, and believe us, that one bad pick will definitely be there.

Diversification is your friend.  It exists to help you, to save you money, to reduce your risk.  Use it.  Don’t put all your retirement money in the stock market, and with the money that you do put in the market, spread it out over multiple stocks in multiple sectors.  Never place a large fraction of your portfolio in a single stock.  I’d consider 5% the maximum amount that you should put in any one position.

Diversification is extremely important, and it will usually help with preventing large losses.  But there are a few “gotchas” that you need to watch out for.  First, it is possible to over-diversify (the reasoning behind this is technical and gets too far into financial theory, but suffice it to say, you can have too much of a good thing).  If you take on too many positions, you may be putting a pretty big dragnet on any high flying stocks that you’ve chosen.  Finding the right amount of diversification for your portfolio is a fine art, and you’ll need to consistently monitor your positions to find the right level.

Also, keep in mind that owning multiple stocks doesn’t necessarily mean you’re properly diversified.  The main thing to keep in mind when you diversify is that you want to eliminate stock-specific, or industry-specific risk.  That means that buying Ford to diversify away from Toyota is generally not a good idea.

Know the company (fundamental analysis)

Research the business

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When you buy (or short) a stock into your portfolio, you’re inherently taking on the same risks and rewards that the underlying business has.  That means that you better know your companies extremely well.  The most diligent investors on Wall St. literally spend thousands of hours researching potential buys and sells before adding them into their own portfolios, and, for the most part, you can get the same information that they can.

Sure, sometimes they have quick access to CEOs and managers in the company, but the foundation of their research starts with information that you can get just as easily as they can.  One of the best places to learn about a company is the investor relations page of its website.  On that page, you should have access to details about company management, financials, and links to mandatory reports and filings that all publicly traded companies have to make.

The most important of these reports is called the 10-K, which provides more details than you’d ever want about a company.  It will tell you everything from what that company does, to what its sales and profit margins are, to the terms of its leases on its most important real estate.  Company management has to sign off on its accuracy, and oftentimes, the CEO and CFO provide key comments and notes that are incredibly useful for investors.

In addition to reading the 10-K, you can listen in on analyst and management conference calls during earnings season, set up news alerts on the company, and even visit some of its stores to see how sales are doing (when possible).

You can also research what management is doing with their own shares in the company.  Are they buying?  Are they selling?  How much?  Why?  Sometimes the way that company management acts can be an indication of what they expect for the company’s future (just be careful about putting too much emphasis on this, as managers aren’t allowed to trade on any information that hasn’t been made public).

Your goal in all of this research should be to gain as much insight on the company as you can.  Get as much information as you can, and then make an assessment on how you think it will do in the future.

Evaluate performance

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After you’ve done your investigative work, your next step should be to assess how the company has been doing in the recent past.  Take a look at its balance sheet and income statements for the past year and compare it to the past five years.  Has its debt gone up?  Have profit margins dropped?  Have they been gaining or losing cash?  Taking a look at the cold, hard numbers is sometimes the best way to determine where a company is going.

Some of the data you should look at include:

• Debt-to-equity ratios (many times, when debt starts to grow, you want to be cautious)
• The current and quick ratios (does the company have enough cash to pay off its immediate debts)
• Profit margins, return on equity, and return on invested capital for the past 5 years (an upward trend is always good)
• Growth in sales and profits over the past five years (have they been selling more while keeping their costs down)

The list above is just a starting point.  There are a large number of different ratios, fractions, and numbers that you can examine, but in the end, your goal is to find out one thing: how’s business?

Know the stock (technical analysis)

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After you’ve determined if the stock you’re looking at has a good underlying business or not, you need to figure out if the stock itself is a good buy (or short).  It’s entirely possible to have a good business that’s not a good stock.  The first thing you may want to do is value the business and determine if the stock’s current price is overvalued or undervalued.  You can either use a method of discounted cash flow valuation, or the P/E ratio, or preferably, both.

By first finding the true value of the company’s stock, and then looking at the P/E, you can find out if the market is overvaluing or undervaluing the stock both in terms of absolute dollar amounts, and with respect to how it has done so in the past.  If a stock’s current P/E ratio is low compared to its historic average, it could mean that the stock is a good buy (however, it could also mean that the underlying business is in trouble, this is where your fundamental analysis can help you make a judgment).

In addition to valuing the stock, you should also take a look at the company’s earnings per share, or EPS.  If this number is high compared to historical values and the company’s competitors in the same industry, it may mean that the company is doing well compared to its share price.

Some investors also like to look at chart patterns to determine whether it’s a good time to buy or sell the stock.  Though I wouldn’t suggest trading stocks based on patterns alone, you could use chart analysis to time when you plan to get into, or out of, a new position.  Some patterns like moving average crossovers and MACD crosses may help you get a better price on your trades.

When it comes down to it, you should always keep in mind the fundamental saying: “buy low and sell high.”  It’s your job to determine what “high” and “low” mean for any given stock, but as long as you follow this rule, act greedy when others are fearful and fearful when others are greedy, you’ll make a hefty profit.

Dividends

Dividends are some of the most important things when it comes to buying stocks.  A dividend is a payment from the company to you to provide you with a share of the company’s profits.  Believe it or not, most of the value in owning stocks comes from dividends, not price appreciation.  Owning stocks that pay dividends is extremely important.  In fact, many investors only own dividend-paying stocks.  You may want to consider doing the same.

Dealing with losses

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Inevitably, no matter how much research and analysis you do, you’ll run into a stock that will go against you.  It’s important to have a plan in place for when this happens.  You have a few different options.  You could always use options to limit your losses while holding onto your underlying stock.  You can learn more about this possibility in other articles on this site.

You can also choose to do what’s called “dollar cost averaging,” in which you invest a small and steady amount continuously, buying more shares when prices are cheap, and less shares when prices are high.  Though dollar cost averaging can potentially lower your cost basis, it’s not without its disadvantages.  The last thing you want to do is catch a falling knife and invest more money when your pick is going against you.  That’s why I recommend the use of stop losses.

Stop losses automatically get you out of your position after you’ve lost a certain, pre-set limit.  It’s only natural for us to fall in love with the stocks we buy, and when they start going against us, our natural intuition is to hold on to them, hoping they’ll rebound.  By always using stop losses, you take emotion out of the picture, and you implement a systematic way to always limit your losses.

The most important thing with dealing with losses is to actually have a plan in place before they occur.  If you wait to figure out how to deal with your losses until they actually happen, chances are you won’t do what’s best for your portfolio.

Shorting

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Shorting a stock involves borrowing that stock from your broker and selling it on the market in hopes that the price will drop, allowing you to buy it back at a cheaper price and pocketing the difference.  Shorting definitely has its merits, but shorting an underperforming company is significantly different from buying a strong, solid company.  It also comes with several drawbacks, including the possibility of having to pay any dividends that have been issued while you’ve been short, having to buyback the stock immediately if the lender of the stock wants it back, dealing with possible bans on shorting (as was the case with financial stocks during the financial crisis), and maintaining proper hedges and controls on your short position, particularly in light of your entire portfolio.

Point being, unless you really know what you’re doing, try to avoid shorting stocks.

Final tips

When you find a stock that you’d like to buy or short, you may want to think about scaling into and out of positions.  Consider buying (or shorting) only a small portion of it to start with, and slowly buying more if the position goes in your favor.  By avoiding investing all of your money at once, you set yourself up to avoid large losses.

Before you invest your first dollar, it’s important for you to commit yourself to being disciplined, developing a plan for finding new stocks, limiting your losses, and avoid getting emotional.  You’ll undoubtedly experience highs and lows when investing, and as long as you don’t let them control your judgment, you can make consistent profits over the long run.

That wraps up my guide to stocks.  Hopefully you feel a bit more comfortable with stocks, the stock market, and investing in general.  At this point, you should keep reading and doing more research to understand if investing in individual stocks is the right process for you.  If not, there are always mutual funds and options, which you can learn about from other articles on this site.

Good luck!

This is a re-posting of an article from Intigril, my site on investing, trading, and personal finance. To view the original article on Intigril, click here.

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What the heck is a share of stock?

Want to know what stock is?  Simple – it’s a share of ownership in a company.  When you buy a stock, you’re buying a very, very, very small piece of ownership in a company that has decided to sell itself, in part of in whole, to the general public.  That’s it.  Seriously.  If a company has sold one billion shares to the public, and you own 1 share of stock in that company, then you own a billionth of that company.

Cool, I’m an owner!  What do I get?

Just because you own a few shares of Coke, it doesn’t mean you can just waltz into a grocery store and grab some soda.  But don’t fret.  As a stock owner, you’re entitled to something much more important – a claim to some of Coke’s profits.  But again, there’s a problem.  You can’t just call up the manager of Coke’s bank account and demand a wire transfer tomorrow.  Only Coke’s board members can authorize a payment to the company’s shareholders, you.

As a shareholder, you get to vote on who gets on Coke’s board of directors, but let’s be honest, as an individual investor, you don’t care about who’s on Coke’s board.  The only thing you’re looking for is your share of Coke’s earnings (paid out as a dividend) and a higher stock price so you can sell your stock at a profit.

As an owner of the company, though, there’s one thing to keep in mind.  If the company goes bankrupt, chances are, you won’t actually get any money that the company has.  By law, the company first has to repay any debts that it owes.  After it does that, then you can get paid, but if the company went bankrupt, what’s the likelihood that it will have anything left over for you?

Why do companies sell stock?

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Imagine you had started a great company producing flying alarm clocks (let’s just go with it).  You’ve been able to set up a factory to produce and sell thousands of alarm clocks in California, but now you’re getting orders in from the rest of the country and you can’t keep up with them.  You need to open more factories, you need to pay more workers, you need to set up supply chains and coordinate with distribution centers.  What do you do?

You could take out a loan from the bank, or, you could sell some (or all) of your ownership in the company to raise money for growth and expansion.  If you decide to go that route, you’ll generally contact one of the big Wall Street banks to take care of the dirty work for you – figuring out how many shares to sell and at what price, finding buyers for your stock, complying with SEC guidelines for reporting, etc.  Of course, the big Wall Street bank will charge you a fee for all of their work.

The bank will then buy all of the shares that you’ve decided to offer themselves.  Then, at some point in the future, they’ll resell those shares to the general public in an initial public offering, or IPO.  Once they’re out in the public, your company is no longer involved in the process.  Now, your job is to keep growing the company so that its new owners make a nice, hefty profit.  If you do a good job, more people will want to buy shares in your company, driving up the stock price, and keeping your shareholders happy.  If you don’t, more people will sell your stock, causing your stock price to tank, which may eventually lead to your new bosses outing you and in favor of finding a new CEO.

But ultimately, this IPO will be a pretty good deal for you, too.  As the founder of this hugely successful flying alarm clock company, you’ve probably kept a large chunk of shares for yourself.  Now that these shares are trading freely on the market, you’ll be able to sell them for a pretty penny and cash out, if you want.  Just keep in mind that as part of the IPO, you’ll be prevented from selling your shares for a specific period of time – usually six months.

Back to reality

Hopefully, you now have a better idea of what all the fuss is about.  Stocks and the stock market are a major part of everyone’s daily lives, at least in some small way.  Now that you know a bit more about what a stock is, you’re ready to get into the details.  In the next post, we’ll talk about how stocks are traded and who’s buying and selling them.  Read on!

This is a re-posting of an article from Intigril, my site on investing, trading, and personal finance. To view the original article on Intigril, click here.

Invest in the market.

Traditionally, one of the best ways to build long-term wealth has been by steadily contributing money to a portfolio of diversified stocks over the course of many years.  And you know what?  If you haven’t already started, now’s the time.

The earlier you start with investing, the more the power of compounding can help you.  Yes, the market can drop dramatically, yes, the past decade has seen two huge recessions, yes, things look bleak.  Guess what?  It’s still the perfect time.  The more time you give yourself to grow your money, the richer you’ll be.  If you can stay disciplined and follow an intelligent plan.

Stocks are a great way to invest.  So are mutual funds.  In fact, if you’re interested in long-term investing, mutual funds may even be the safer way to go, and we’ll soon have a guide to getting started with mutual funds.  But if you’ve got the time and the will to do a little work, you can take control of your own investments and build your own personal mutual fund.  The best part?  You won’t have to pay a “professional manager” on Wall Street to make the same trades that you can make yourself.

Are you ready to get started?

Good.  Let’s roll.

My guide to stocks

1. The beginner’s introduction to stocks
2. How does stock trading actually work?
3. What goes into a stock’s price?
4. Investing in stocks for the long run

This is a re-posting of an article from Intigril, my site on investing, trading, and personal finance. To view the original article on Intigril, click here.

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Your plan

Over the past 7 articles, we’ve given you a lot of information on how to manage your finances. If it all seemed a bit overwhelming, this article should help clear things up. Below, we’ll provide you with a summary plan that should help you make sense of it all.  If you take care of the items below, you’ll be on solid financial ground and you’ll be able to start generating even more money right away.

1. Get your insurance needs out of the way

   If you’re working for a company, you probably have the option to sign up with its insurance providers to handle almost all of your insurance needs (medical, dental, vision, life, disability, etc). Hopefully, you got everything squared away when you were first hired, but if you didn’t have that chance, contact your HR representative and see what you can take care of now. Go out and buy home owner’s or renter’s insurance if you don’t already have it.

   If you’re not working for a company, there are a variety of providers that will sell you independent insurance coverage, you may have to pay more than if you were getting it through a group plan, so shop around and find the plans that best suit your needs.

2. Figure out your expenses

   Calculate what you’re going to need to survive each month. Add to that any monthly debt you need to pay off. This is the minimum amount that you should be depositing into your checking account each month. Ideally, you’ll have quite a bit more than this coming in, but try to shoot for at least 2-3 times your monthly expenses.  If you’re having problems scrounging up enough to meet that amount, it’s time to make some changes.

3. Deal with your debt and your tax-free retirement accounts

   In step 2, you calculated the amount that you’ll need to cover your debts. Pay those off on time every month. With any money that’s left over, figure out how much of it you’d be willing to give up each month and then have it automatically withdrawn from your paycheck and deposited into a tax-free retirement account (401K, Roth 401K, 403B, etc).

4. Build up your emergency fund while keeping your checking account healthy

   Whatever you have left should go towards building up your emergency fund. It may take you several months to a year of saving before you’re able to build up your account all the way, but stick with it until it’s done.  You’ll sleep easier, and that has to be worth it.

5. Plan for the future

   At this point, you’ll have be on a solid financial foundation. Your next step is to look at what you’re going to need for the future. If you expect to buy a new car, put a down payment on a house, or make another large purchase, you should set up a separate savings account that you’ll contribute to every month as you save up specifically for that purchase. If you don’t see any big expenses coming up, you should start trading or investing. The guides on this site will help you get started with growing your money.

After a year or two of going through this plan, you should be able to reduce your debts, maintain a solid emergency fund, have enough in your checking account to take care of expenses, and be on track for an early retirement.  On top of these basics, if you can cover all of your expenses with a good credit card that provides cash back or other rewards while managing to pay off your full balance every month, you’ll be all set.

More resources

• If you want some more help when it comes to money, we’d recommend buying The Wealthy Barber. This is one of the best books on personal finance, and it’s actually a pretty good read (unlike most other financial books). If you’re serious about getting your finances in order, reading this book is mandatory. It’s the best $10 you’ll spend.
• You should also check out Ramit Sethi’s blog, I Will Teach You To Be Rich.  It has a whole slew of great articles on personal finance, and if you like a snarky comment here and there, you’ll enjoy his writing style too.
• Passive Panda is also a nice, new(ish) resource that can help you improve your financial situation by providing you with new ideas to generate income and make money.
• Get Rich Slowly is another good resource for personal finance articles.

And finally, if you’re ready to start making extra money every week by trading options, there are a ton of articles on Intigril just waiting for you to read them, learn, trade, and be free.  Good luck with your personal finance goals, and we hope to see you trading soon!

This is a re-posting of an article from Intigril, my site on investing, trading, and personal finance. To view the original article on Intigril, click here.

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Growing your money

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By this point, you’re familiar with all of the boring parts of personal finance. Unfortunately, you need to have all of that boring stuff taken care of before you can get to the really exciting parts – how to use the money you have to make more of it, or how to “make your money work for you.”

Believe it or not, one of the worst things you can do is to let all of your money sit in a savings or checking account. That’s why in Part 2 of this series, I told you to only keep as much as you needed for your average expenses (plus a buffer) in your checking account. At first glance, this may not make sense. Why shouldn’t you keep all of your money safe and sound in bank deposits?

Well, the main reason is, that money could be making you even more money if you used it the right way. If you leave it in a savings or checking account, it won’t be doing that for you.

How does it work?

If this is a new concept for you, don’t worry, we’ll go through how this works, and we’ll even give you a few resources to help get you started.

You’ve probably heard the expression “it takes money to make money.” Well, it’s true. Companies have to pay their employees so they can provide a product or service that their customers will buy. Banks take the money you deposit with them and use it to provide loans. And everyday workers use their hard-earned salaries to invest or trade. That last point is what we’ll focus on in this article.

As an individual investor or trader, your best bet at getting rich is to slowly and steadily grow your money through the power of compounding. Sound scary? It’s not (and as an up-and-coming trader, you’re going to learn to love it). All it means is that over time, you can use the money you’ve made to make even more money. Essentially, compounding is a wonderful thing that helps you grow your money faster and faster and faster. All you have to do is help get the process started, and stay consistent.

Risk

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Before you can get started, though, you have to know about risk. Why risk? Well, it’s the most important consideration in growing your money – the more “risk” you take, the more money you can earn or lose. If you put your money in no-risk investments, you won’t lose it, but you also won’t make a lot. If you put your money in higher risk investments or trades, you stand to make a lot more, but you could also lose a lot more too, so part of learning how to grow your money is figuring out what you’re comfortable risking.

With that said, it’s very important to not put any money in risky trades or investments if you can’t afford to lose it. This article is for people that have taken care of their basic expenses, have saved for emergencies, and are have a solid payment plan in place for their debt.

The choices at your disposal

Now lets go over some of the different choices you have, how risky they are, and how much money you can expect to make from them.

Bonds (fixed income)

Bonds are essentially loans from you to someone or something else. When you buy a bond, you’re loaning money to a company, town, city, state, or country in exchange for the promise that you’ll get paid back more than you lent out. You can buy a bond that will pay you back in as little as a few days, or as long as a few decades. The amount you get back depends on a few things – the interest rate in the economy, the chance that whoever you lent the bond to goes bankrupt, and when your bond is set to repay you.

more…

Stocks

Everyone has heard about stocks. Even if you have no idea what they are, you’ve seen plenty of stories about the “markets” rising and falling, new companies going public, and stock shares. Stocks (and funds, which you’ll read about next) are some of the most popular financial instruments for everyday people to grow their money.

more…

Mutual funds

One of the problems with owning individual stocks is that it’s too easy to lose money. One bad headline in a company that you own and the stock could go down 30%, wiping out your capital along the way. That’s where mutual funds, or plain old “funds”, come in. Funds are groupings of stocks that are combined together to form a single investment. When you buy into a mutual fund, you’re actually buying into many different stocks at once. The idea is that a combination of many different stocks can help to offset losses in any one, particular stock.

more…

401(k)s

If you work for a company, chances are you have access to a 401(k), which is essentially just a retirement account that invests in mutual funds. The company that administers the 401(k) will give you a choice of a few funds, and you can control how much of your money goes into which funds.

more…

Options

Options are our favorite financial instrument, and they’re what I specialize in. Options are an incredibly flexible class of securities that are known as “derivatives.” What this means is that they’re only valuable because they tie back to a security that actually has real value (like a stock). Said differently, their value is derived from the value of something else. You can have options on all sorts of different underlying securities, but on this site, when I talk about options, I mean stock or stock index options.

more…

Other advanced financial instruments

Options aren’t the only derivatives out there that you can trade. There are also futures, swaps, CDOs, and a variety of other exotic instruments that big banks create. In addition to derivatives, you can also trade commodities (things like corn, soybeans, or coffee), as well as precious metals (like gold and silver). Learning how to trade each of these is similar to trading options – if you do decide to get into them, learn how the markets work, understand the little quirks that go along with each instrument, and practice, practice, practice.

Real estate

Real estate is a tougher investment to do properly. Many people used to think that the price of a house could never go down, so as long as you continued to borrow money from the bank to buy and sell houses, you could make money forever.

more…

Getting started

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Now that you know what’s available to you, how do you get started? First off, you’ll need a broker – someone that can execute your trades and take care of the logistics. They’ll charge you, so make sure to find the cheapest broker that you can find that still provides you with the level of service you’re looking for.

You should also start familiarizing yourself with whatever it is you want to invest in. Interested in bonds? Read up about their peculiarities. Interested in options? Figure out how puts and calls work. Want to build up long-term wealth with minimal effort? Find out which mutual funds are the best fit for you.

Once you’ve learned what you need to get started, go slowly. If you’re investing in stocks or bonds, figure out the right asset allocation and don’t go beyond that. If you’re trading options, figure out a strategy that works for your trading style and try some virtual trading before putting real money in. In any case, be consistent, and don’t get discouraged from a few losses. It’s all part of the process of growing your money.

That’s it for the personal finance series. In the next, and final post, we’ll wrap it all up, give you some good resources to learn more, and get you on your way to achieving financial stability so that you can then go on to be a trader and achieve financial independence. Read on!

The question is on everyone’s mind – are we repeating the dot-com bubble of 2000?  Having lived (and lost) through that crash, tried my hand at a couple of web startups of my own, immersed myself in the world of mobile and app development, and expanded my knowledge of business, I figured that it may be time to throw in my two cents.  Before I start the requisite comparisons to 2000, I want to talk about what I really mean when I use the word “bubble.”

In this post, I’ll be using the word “bubble” as it applies to capital markets, namely, initial rounds of funding and the stock market.  The only thing I’m concerned about is whether long-term investors will lose money by investing in some of the hot new companies that are going public.  This is a separate concern from those that worry about macro-economic factors like unemployment and GDP growth, so it could be possible that we could be in a bubble as I define it without being in a true economic downturn.

Now, with that in mind, the question remains, are we in a bubble?

Kind of.

You didn’t think I’d give you a straight answer, did you?  I was a consultant in a former life, you know.

Current Landscape

So what do I mean?  How is it possible to kind of be in a bubble?  Let’s start those comparisons.  If you look back to the ridiculousness of the economic landscape in 1999 and 2000, you’ll see that investors were very nearly throwing money at nothing but hopes and dreams.  Total venture investment at its peak was about $27 billion, and total early stage investments were about $1.5 billion¹.  Companies were going public without a consistent track record of revenue, much less profit, generation.  The most gullible investors fully believed and even proselytized to others about the new economics of the Internet.  My favorite observation from that era was that everyone believed getting users was the most important factor in making money, even if they didn’t know how to monetize their users!  People stopped caring about the fundamentals of business and became enamored with technology.  This led to an investing environment where retail, and even big money, investors put money into fundamentally unsound businesses, driving their prices ever higher, until the smartest investors cashed out, starting a cascade of falling prices and eventual bankruptcy for most of the new age businesses.

And what about today?

Interestingly enough, we only see a few similarities, but they are significant ones.  It’s true that total tech venture investing is currently around $6 billion, and early stage investments are only in the low hundreds of millions of dollars¹.  It’s also true that we’ve only seen a handful of companies go public, and those companies actually have sustainable business models and even impressive revenues!  But what they don’t have are significant, sustainable profits that justify their valuations.  Nor do they have huge barriers to entry or airtight business models resistant to competition.

Market Fundamentals

Despite all the hype surrounding the newest tech IPOs, the fundamentals aren’t there to justify their market caps.  Facebook, a company that is no more than six years old, is valued at $75 billion (about the same as Goldman Sachs), and yet, it only has revenues of $2 billion per year.  Keep in mind those are revenues, not even profits.  One can only wonder how much value they’re actually returning to shareholders.  Similarly, LinkedIn’s $9 billion market cap comes on profits of only $15 million.  Million!  And even Groupon, the current web darling, has significant financial troubles.  In 2010 they lost about $413 million, with another $114 million in the first quarter of 2011², and yet, they just filed for an IPO.  These financials imply a multiple of more than 100x.  That sounds bubble-ish to me.

What’s interesting is that I’ve started to hear people say that a lack of fundamental stability is ok because the number of Internet users is growing like crazy and that the market is huge! All these companies need to do is grab some more users to keep their revenues growing.  Sound familiar?

It seems like we have conflicting evidence.  Some indicators are pointing to signs of a bubble, whereas others are simply pointing to signs of rapid growth.  This is where the uncertainty and my answer of “kind of” comes in.  I’m fairly certain that long-term investors that dump money into these incredibly over-valued IPOs will lose money.  But the number of such companies filing for IPOs is still relatively small, and many investors are still very cognizant of what they lost in 2000, so they’ll be much more prudent this time around.  Moreover, there are many, many analysts currently wondering aloud whether or not we’re in a bubble.  Though there were some similar voices in 2000, we didn’t see the same volume and skepticism that we see now.  If this were a true bubble, I believe that the number of voices warning of impending doom would be much less than what we’re observing now.

Summary

So in my opinion, we’re probably in a time when careless investors are getting caught up in hype, ignoring fundamentals, and risking capital in certain businesses.  But we’re not in a 2000-style dot-com bubble.  I don’t think we’re going to see the type of market crash that we saw back then (at least not from tech, sovereign debt and state bankruptcies may yet do us in), but I do believe that the share prices of many of these companies will eventually fall significantly in the future.  As far as the tech scene in Silicon Valley goes, I think that hiring will continue to be strong, more and more web and mobile apps will be released to an increasingly tech savvy consumer base, and clever, intelligent entrepreneurs will begin to form small, stable companies that will endure for many years into the future.  Who knows, somewhere in the basement of a Palo Alto home, someone could be building the foundations of the next IBM.

2 Comments

Rahil Bhansali on July 19, 2011

Great Article Buddy! Can see how consulting definitely affected your final decision since you never answered your original questions ;)But I also have to say I believe we may see a series or micro-bubbles without an overall economic downturn

Shanif on July 19, 2011

Haha, Rahil, you'll soon see it firsthand. I think there's a good chance you'll be right. I don't think we're going to see a huge bubble but anything up to that is fair play.

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