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We believe that today marks the beginning of the second technology bubble. In this article we explain why and how we are positioning given this view. Before reading it you read out introduction to the Second Tech Bubble. This is an important primer which covers key characteristics of historical asset bubbles. We assume the reader has already covered this material in this update.
This article is just a summary ... we will add to this later but wanted to share before our 8pm EDT live discussion on Twitter. You can join by following us @IntuitEcon.
Some of which our readers have already covered.
What is the Second Tech Bubble?
Why Ark Invest Crashed
Why the bubble is only just starting
Price Chasing Market Behavior
1. What is the Second Tech Bubble?
We generally agree with the Ark Invest thesis that "Disruptive Innovation" is at an inflection point across several key technologies. We don't agree on all the details and have our own views on which technologies. However, we do agree that several are at the beginning of rapid adoption due to declining cost curves making them cheaper and better than many existing solutions. Those technologies are Crypto-assets, Genomics, AI, Robotics, 3D Printing. Notably we do not include electric vehicles in this group for reasons we explained in our article on why we sold Tesla back in December.
Another area where we differ from Ark Invest is that we expect the nature of this adoption to overshoot the intrinsic value of the affected companies by a wide margin. In other words....we think we are going to have a #2ndTechBubble. The reason for this is that all five technologies have the following shared characteristics ...
Hard to Value
The combined effect of these characteristics in an asset creates the potential for bubbles. Investors first see that the technology is valuable. As investors buy into it the price rises. Price action creates contagious narratives. These feed on each other sending the price higher than intrinsic value because its very challenging to know what the true value should be.
We believe that this is happening right now with these five technologies. Here is a standard chart of an asset bubble. Much of the debate around disruptive technology has been centered around bubbles. The key question is whether ETFs like those run by Ark Invest are in the "Awareness Phase" or already in the "Blow Off Phase". That is what we mean by the Second Tech Bubble.
Many acknowledge that there was a lot of speculative behavior in disruptive technology...especially Ark Invest funds. Cathie Wood said so as well...hence why she was selling off her biggest winners in January and buying them back over the past month at ~65% discounts in many cases.
The reason we are writing this now is that we have high conviction that we are...today...right at the "Bear Trap" point of the "Awareness Phase". We have a lot of money riding on this conviction. For that reason, we are sharing it with our Brain Trust (currently accepting applications) and followers. You are welcome to review the evidence below and share your views tonight or later on Twitter.
2. Why Ark Invest Crashed
We already wrote an article explaining why Ark Invest crashed. We believe our thesis is accurate because we predicted the crash. Essentially, it comes down to how closely Ark Invest was associated with Tesla and Electric Vehicles...which we believe were, and are still in a bubble. We expected this relationship to hit Ark Invest funds more broadly. That's why we sold most of our Ark Invest stocks in late January and started shorting Tesla.
Tesla and Electric Vehicles broadly started an incredible run-up that started in mid-2019 and ended in February 2021. Ark Invest was made famous by their success betting on Tesla's price reaching $4000 back when it had a pre-stock split price of just $40. Tesla was hated at the start of this run. That was a big reason why we bought so much of the stock back in May of 2019 and held it up until mid-December.
A month before that we made a video called "Why we still hold Tesla". Ironically we probably made this video at that time because of the euphoria that was building. Three weeks after making it our shares went up another 50%. Just about everything Ark related was going up almost every day! So we did some digging.
Ark's success led to huge inflows. You can find ARKK AUM flow charts everywhere now. They are part of the new narrative that's scaring investors into selling shares in $DDD already down 70% from the peak just before beating on earnings today and flying up 35%...
What you don't see are the same AUM flow charts in clean energy related ETFs like ICLN. The runup in "Disruptive Tech" that started with Tesla truly did create a bubble.
True bubbles tend to have multiple rapid price run-ups followed by crashes in which many investors claim that the bubble has popped. The final top is typically characterized by a broad acceptance by many investors in the core narrative. That happened for Tesla and Electric Vehicles broadly in the run-up that started in mid-2019 and ended in February 2021.
Electric Vehicles arguably were in a bubble, but not technology generally. Electric vehicles by themselves are not a particularly good business. They are easier to make because they have 10% of the moving parts. Consumers are also generally deriving less status from cars and viewing them as a service...making different cars that much more commoditized. There was never any real justification for a car company like Nio or Plug to achieve such high valuations. Tesla is a special case not because of EVs...but because of autonomy.
The crash in Ark was driven by how closely their brand and ETFs became tied to the EV bubble. That's why everything in it sold off in unison. That's why a lot of Ark stocks continued to have a high correlation to Tesla so far through 2021.
Irrational behavior is causing a 3D Printing company in Israel, a Genomics company in France, and the leader in EVs to continue trading with near perfect correlation.
We believe that irrational behavior has created the best buying opportunity so far this year.
3. Why the bubble is only just starting
Our conviction that the #2ndTechBubble is just getting started stems from two observations. The first is that much of the "Disruptive Innovation" space is objectively very cheap. The second is that once prices in this space start to rise again the contagious narratives of these companies will begin to spread again as is typical in the "Mania" phase of a bubble.
We will support these observations in turn...first with evidence on why we see the "Disruptive Innovation" space as being generally cheap. In short, we point out that many leaders in the disruptive innovation space are trading around pre-pandemic levels, despite many having benefited from the pandemic, lower interest rates, higher stock valuations, broader recognition and awareness by investors, and recent evidence that these companies could easily be worth many times their current valuations should sentiment turn in their favor.
Evidence of Cheap "Disruptive Technology"
Essentially no-one was had concerns about a bubble in "Disruptive Technology" before the pandemic because this was before Ark Invest exploded on the scene with their Tesla call and exposed investors to small but rapidly growing industries like Genomics and 3D Printing. Before the pandemic many of these companies had suffered neglect for years, with stock prices floundering while the S&P 500 led by mege tech marched higher. Few new new about let alone accepted the value propositions of stocks like Teladoc, 3D Systems, and Invitae.
Moreover, interest rates were higher and stock valuations were far lower just before the pandemic. The 10 year treasury rate was up over 3% at times during 2018 ... a year in which Stratasys, a leader in 3D printing traded at around its current market cap. The same is true for the space generally...despite obvious benefits to incentivize manufacturers to adopt additive manufacturing as opposed to relying on complex risks to supply chains and rapid changes in consumer behavior as demonstrated by the trade war and global pandemic.
Few sectors benefited more from the pandemic than leaders in Genomics and Healthcare innovation. Ark Invest manages an ETF dedicated to these industries that serves as a useful proxy. The largest holding is Teladoc...the global leader in telehealth.
No one knows what the price of Teladoc should be ... but everyone should agree that Teladoc benefited tremendously the pandemic. Teladoc's revenue doubled during 2020 as telehealth visits across the country skyrocketed from virtually zero to 15 Million visits in 2020 Q2. As vaccinations rise and the pandemic subsides we will feel safer going back to our local clinic, but nearly everyone now knows that it is safer, more convenient, cheaper, and just as good if not better than physically congregating sick people together to visit the doctor.
So why is Teladoc's price trading at essentially the same level at it did just before the pandemic hit? How does one explain the global leader in telehealth...being worth the same today, as it did before the company became a household name, before essentially everyone accepted the value of telemedicine, before the pandemic, before rates fell, before their revenue doubled, and before valuations on stocks generally rose to 25% higher multiples?
One reason you could point to is perhaps the run up in Teladoc's share price just before the pandemic. The price jumped from around $80 to $120 from December 2019 to the end of February 2020...just before the stock market began to crash from global lockdowns that would make million dependent on services provided by companies like Teladoc and Amazon. But the reason for the runup ahead of 2019 year end earnings proved to be justified! (Link to article below)
All companies can fail...and Teladoc is no exception. The point here is that relative to February 26th...just before their blowout earnings and a pandemic that did more to benefit Teladoc than arguably >99.9% of public companies...in a world of higher general stock prices, and comparable interest rates...why is Teladoc so obviously cheap?
The answer...is that its one of Ark Invests highest conviction stocks...and fear and hate for Ark Invest ... including the founder and CEO Cathie Wood is at an extreme. That is what's driving Ark hate right now. We would not be surprised to see a #StopArkHate go viral in coming weeks.
So why is everyone so fearful of Ark?
One big reason why is the narrative that Ark ETFs have gotten too large. At issue is fear of the small cap names within ARKK ... especially those in Genomics and 3D Printing because these are where you find most of their high conviction small caps. Their argument is summed up well by Doug Kass below, but has been all over the place in high profile publications such as this Reuters article titled "Record redemption in Ark ETF sparks liquidity worries".
This argument hinges on the view that inflows into Ark Invest ETFs were so enormous during 2020 and early 2021 that inflows into the ETFs overwhelmed liquidity and pushed up prices.
Like most good narratives ... this one had some truth to it. Although...unlike Doug Kass and just about everyone else...we were tweeting about it BEFORE the crash. Inflows into ARK funds, especially those dominated by small caps almost certainly did experience a liquidity induced shock to the upside. That's why we sold nearly all of it in late January.
But this narrative is long in the tooth and fails to recognize the many causes of Ark's success during 2020, particulars of the companies inside it, and the isolated effects of the liquidity squeeze.
Let's start with the liquidity squeeze argument.
Ark Liquidity Squeeze
The best Ark related ETF to judge the basis for the liquidity squeeze is Ark's 3D printing ETF ... ticker PRNT. The reason is that it is dominated by small caps, started from the smallest level of assets under management, and had the highest percent increase in assets toward the end of the runup.
We should see more evidence of a liquidity squeeze in PRNT than any other Ark Invest ETF.
And in fact we do!
Here are the nine pure play 3D Printing stocks in PRNT. What do you notice? First, thing to note is that there was no clear pattern across all of these stocks before November 2020. You can see this in both the rice action and in the volumes. Some companies were going up, but many were not despite the stock market's relentless rise during pretty much the whole year after bottoming in later March.
Then BOOM! Everything started going up fast...until the epid crash began on February 16th. What's also important to note is that most of these names have fallen all the way back to their price before the synchronized runup began in November.
This is important because it shows that the liquidity driven runup started in November...and has already given back most everything!
You can actually see a similar pattern across all of Ark Invests high conviction small caps. Lots of variation in prices before November...then a synchronized runup and crash. Small cap Ark names were trending in a variety of directions before November 2020. Then, during a 2.5 months period you saw pretty incredible inflows. It was only during this period that you saw synchronized daily rise in pretty much all the small cap Ark names...and it's the small caps where you would expect to see a liquidity driven rise/fall. It takes a lot to overwhelm the trading volume of a stock...even a small one like SSYS or CGEN where Ark owns around 10% of the whole company.
What Doug and other Ark haters are waiting for is massive outflows. They believe that these outflows will tank the "Speculative Bubble" in the Ark Invest small caps...but this is unlikely for two reasons. One is that as you can see much of the liquidity induced shock in prices has already evaporated. The other is that flows into Ark had to be enormous like they were in December and January for flows to have arguably moved proces...and that's just for small caps.
Ark flows since mid-February have been extremely modest...they are not what's moving prices. What's moving the price is fear and hatred of Ark Invest and Cathie Wood...the same hate that the same investors were throwing at Tesla and Elon Musk in 2019...driving fear and panic that led to one of the greatest buying opportunities and epic short squeeze of all time.
The tell on this buying opportunity is the correlation across pretty much everything Ark Invest owns.
Our team predicted that there would be a big selloff in Ark back in late January. That's when we sold a lot of these names and bought more Ethereum. We didn't know how big or how long, but we figured that once Tesla broke down it would hurt flows into Ark because Tesla is what made Ark famous. We figured that a lot of these companies would go on sale. Many bought into other Ark funds because they wanted exposure to Tesla or assumed that Cathie could never lose money. It got crazy. Really crazy. That was obvious from all the YouTube channels and TikToks...that's why we were shorting Tesla going into the crash.
But there is no rational reason for a 3D Printing company in Israel, a Genomics company in France, and the leader in EVs to continue trading with near perfect correlation with everything else in Ark.
The correlation is likely to continue...but not because of liquidity...because Ark Invest led by Cathie Wood has turned "Disruptive Innovation" into its own asset class and that asset class is currently on fire sale.
Writing this article right now ... refreshing every 20 minutes ... finishing over the weekend... - Specifically the signals that give us conviction in the $ARKK bottom, rotation out of value, and thesis supporting #3DPrinting and #Genomics. And strategy.
Key points were discussed last night in this recording:
Why the bubble is only just starting
Price Chasing Market Behavior