Arnold Kling  

Internet Bubble 2.0

Hanson Gets Empirical... Data Molesters...

My essay on the YouBubble says,

If you are a founder or an investor in a new business, then I would advise you to read the Business 2.0 article on 25 hot start-ups. Figure out what these enterprises have in common -- and do the opposite.

The investors in these companies are mostly men, and the founders are mostly under 40. Instead, before you invest in or start a company, run the idea past your mom. My guess is that no mature woman would be foolish enough to throw her money away on any of these "hot 25."

One of my very first essays was on the Internet Bubble. I posted it in July of 1999. In December of that year, I started my first web log, called the Internet Bubble Monitor.

Looking back on the 1999 essay, I see that 7-1/2 years ago Yahoo had a market capitalization of $35 billion, which I thought was too high. Today, it has a market cap of $42 billion, which is 20 percent higher. Over a 7-1/2 year period, 20 percent is not a particularly good return (2-1/2 percent annual rate in nominal terms), but it is positive, which is more than what I would have expected. Yahoo is one of the few survivors of Internet Bubble 1.0. However, the most surprising survivor to me is Microstrategy (MSTR), a company whose accounting problems in March of 2000 helped to pop the bubble. It currently has a market cap of $1.6 billion, which is quite respectable. WebMethods is still around, but struggling badly. Pretty much every other company from those days is gone.

I imagine that if government got out of the schooling business and into Internet advertising, then the flow of entrepreneurial skill, enthusiasm, and venture funds would be in the opposite direction. Too bad we can't orchestrate that.

For an easier way to make money than investing in start-ups, see Jeremy J. Siegel and Jeremy Schwartz in today's Wall Street Journal.

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CATEGORIES: Business Economics

COMMENTS (7 to date)
Joe writes:

What is the gist of what Siegal says? It's blocked.

Giovanni writes:

Most of those "hot startups" will amount to nothing. That's not insight, that's obvious. Everyone involved is acutely aware of this. The Internet bust of 2000 is still very fresh on people's minds. But the chance of striking huge riches is just too strong.

These startups sound flaky and wishy-washy, but the potential in the field is very very real. There are thousands of flops for every Yahoo or Google, but there will be more successes. There will be another MySpace and another YouTube.

Arnold Kling writes:

The gist of Siegel and Schwartz is that typical old-fashioned stocks in the S&P 500 returned over 10 percent annually over the past 50 years.

As to somebody finding the next "myspace" or the next "youtube," that's my point. Somebody will find the next fad site, because fads change. Chances are, myspace and youtube will be "so last year" before they ever reach profitability! They only make money as long as there is a Greater Fool investor out there willing to buy them.

eric writes:

in 2000, I remember that Yahoo! had a forward P/E of 100 or so, and thought it was strictly impossible. It's current P/E is 80. It's clearly expecting exponential growth, but at $6B in annual sales, methinks it's not a good buy. Nonetheless, it highlights that even a 'good bet' (shorting YHOO) needs diversification.

Ted Craig writes:

Does anybody else find the concept that advertising is going to pay for everything online to be as foolish as I do? I really question the value of online ads. First, I'm not certain how many people even pay attention to them. I realize their effectiveness can supposedly be measured in clicks, but I'm not sure how good a tool that really is for measuring effectiveness. Also, when I hear marketers talk about how superior Internet advertising is to traditional media, I think to myself, "Yes, because you idiots haven't killed it yet. Give yourselves time." I compare it to when a radio station changes formats. At first it's "another 60 minute block of classic rock." As people flock to the station it eventually becomes a 56 minute block of commercials and a song.
I raise this point because most of these start-ups seem to hinge on the idea that they'll make money off ads and I don't beleive that's a good long-term strategy.

Giovanni writes:

You might be right in calling Google the Bigger Fool for buying YouTube or Rupert Murdoch for buying MySpace. I wouldn't be surprised to see risky ventures like those fail to pay off. However, those guys are a little smarter and more clever than you are giving them credit for. Sure the IT industry deserves a healthy does of skepticism, but the IT industry, including seemingly frivolous Web 2.0 companies like MySpace and YouTube, have generated huge amounts of real money and value to society on top of products and services that are often intangible or hard for a lay person to understand.

If you want to label a field as a fad, how about Biotech? Despite it's exotic appeal, and academic prestige, it has generated very little money and value to society compared to the investment of research and venture funding put into it.

Flynn writes:

Arnold, while I agree 100% that MySpace is pure fad, I don't see why you think YouTube is destined to somehow fail. Google has already been enormously successful in the search arena with text and images, often by massive appropriation of other people's intellectual property value. YouTube is simply an extension of that idea. By providing a searchable index on video, Google can again provide significant value to a public audience at an incredibly small cost to themselves. Witness the exponential growth of CONTENT in the YouTube space.

As digital video capture devices become ubiquitous (cell phone cameras, anyone?) the potential for content growth increases geometrically. Being the gatekeepers on accessibility to that is nothing but a positive thing.

As an economist, you should understand that the very first item on a list of transaction costs is SEARCH cost. Services like this virtually eliminate search cost, and that ultimately increases consumer surplus, which Google can then aquire back from them as revenue.

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