June 28, 1999
'Net Destinies
Remembrance of bubbles past foreshadows the fate of
this one
By Bob Hoye
The recent shakiness of the Internet sector should come as no surprise. In fact, a
steep drop in the group would merely make its behavior conform to the historical
norm for all investment booms linked to powerful new technologies. For
centuries, every major advance in communication and transportation has
translated into a marvel to users, a huge stock-market celebration and, for the
economy, significantly lowered costs. But ultimately, every distinctive innovation
matured and was eclipsed by the next one.
In the late 1600s, turnpike trusts in England displayed the classic behavior.
Existing roads were narrow and rough. The new toll roads had well-structured
roadways wide enough for two wagons to pass. A pack horse could carry about
250 pounds, while a turnpike could support a two-ton wagon load pulled by two
horses. The turnpike became the New Paradigm.
The jump in efficiency with canals was even more
impressive. Instead of 250 pounds for a pack horse
or two tons for a turnpike, one horse could tow a
barge carrying 50 tons. Turnpike trusts lost their
luster as speculators frantically chased new canal
issues.
Of course, the construction time from stock mania to
operating success was measured in years. A
new-issue mania erupted in 1792, and subscriptions
could only be entered with the company in the town
where the canal was to start. Newspapers that winter
provided entertaining accounts of speculators wildly
galloping through the night in snowstorms to get to
the next village for the start of business.
But as wondrous as they were, canals had their limitations: drought in summer
and ice in winter. Also, their speed was limited because of bank erosion from
faster "packets" designed for passengers and mail.
The next step was monumental. Horse-drawn freight wagons rolling on wooden
rails had long shown efficiencies superior to roads. All that was needed was a
mobile steam engine to launch another revolution in communications.
Naturally, speculators were in full cry well before commercial success. "Nothing
now is heard of but railroads," said The Quarterly, a London publication, in
March 1825. "The daily papers teem with notices of new lines in every direction;
and pamphlets are thrown before the public eye recommending nothing short of
them general throughout the Kingdom."
During 1824 and 1825, prospectuses were issued for 624 railroad companies and
in March of 1825, the famous merchant banker Francis Baring declared that a
gambling mania had seized "upon all classes and was spreading in all parts of the
country."
That bubble topped out in the summer and, ironically, many companies were in
severe speculative liquidation in late October when the first commercial railroad
began operations. In the U.S., railroads didn't reach saturation until the 1890s,
just as the next New Paradigm in transportation was being developed.
On the communications side, the boom began in the 1860s with the telegraph. By
1869, undersea cables provided instantaneous communication among America,
England and continental Europe. In good markets, this was bullish and in bad
markets, the telegraph was both praised for bringing instantaneous help and
blamed for spreading instantaneous panic.
The stock ticker (1867) further encouraged a high-tech bubble in 1873. Then
came the telephone-voice instead of Morse Code.
The next distinctive jump in communications, stimulated by World War I, was
radio, which was integral the great financial boom of the 1920s. That technology
was handed off to RCA, whose business plan in 1920 could not have envisioned
network broadcasting of voice and music, phonographs and talking pictures by
1929. Saturation in the stock market and the industry were both reached in 1929,
and the subsequent contraction was historical.
At the same time, Henry Ford was putting together another New Paradigm, the
mass-produced automobile, but it also reached saturation despite efforts by other
manufacturers to changing automobile styling and appearance to create
continuous obsolescence.
The Internet bubble, however, is different.
Unlike the classic bubbles from 1864 to 1873, it didn't reach maturity within the
usual run of a great financial boom ending with failure in lesser exchanges. For
major exchanges, such as London and New York, this has added extra time to the
high-tech bubble sectors.
Turnpike trusts matured with the South Sea Bubble in 1720 and again reached
saturation in the 1772 bubble. Canals were the new-issue rage in 1792 and grew
to saturation with the 1825 Bubble -- just as the first steam-powered railway
started operating.
In the U.S., both Eastern and transcontinental railroads became overbuilt and
under-capitalized with the great financial boom that ended in 1873. Vanderbilt
wisely observed that "building railroads from nowhere to nowhere at public
expense is not a legitimate undertaking."
A shrewd assessment. It nicely sums up the ability of speculators and promoters
to create wonderful visions well ahead of commercial success, as they are doing
now with cyber stocks. The stock and bond markets, as they did with each of the
revolutions in transportation and communications of the past, are funding the
dream again. That serious financial reverses have followed each innovation has
more to do with the nature of financial bubbles than with the ultimate worth of
the breakthrough in technology.
As represented by the Amex Internet index, the gains in market capitalization
would make this the biggest and most dynamic high-tech mania in financial
history. However, the index's plunging by 30% in six weeks is typical liquidation
of suddenly unsupportable speculative positions. A technical rebound would be
likely.
Of course, the break and rebound could be described as technical. But the fact is,
it -- along with the cooling of the market for initial public offerings and the
biggest percentage jump in margin debt in 50 years -- suggests that the Internet
sector is becoming saturated.
If past examples are any guide, this has serious implications for the bubble's
longevity. However, again based on history, innovation could be further inspired
by the demand for efficiencies that attend any financial contraction. So,
technology might march on, even if the stock market goes into a deep decline.
BOB HOYE is editor of Institutional Advisors, a newsletter published in
Vancouver (www.institutionaladvisors.com) |
