Are Internet Stocks A Bubble?

That’s an interesting question posed by the Economist in a recent article.

They note of three powerful forces among many influencing the evolution of the internet world particularly, rapid advance in technology, wider range of willing investors and globalization

Read their explanation here.

Nevertheless they also point to the following as beacon...

Lofty prices in the secondary markets.

The Economist writes,

Their task has been made easier by the advent of secondary markets in America, such as SharesPost and SecondMarket, that allow professional investors to trade the equity of private companies more efficiently. They have also made it simpler for employees and angel investors to offload some shares—and have enabled the world at large to observe a remarkable rise in valuations

And the winning streak of technology stocks.

I talked about the potentials of the technology sector as a source of bubble where I used the Charles Kindleberger model of dislocations.

Here is what I wrote in July 2010

Some factors that may prompt for a technology based dislocation (Kindleberger model) bubble are the following:

-less government intrusion in the market clearing process of the previous dot.com bust,

-swift obsolescence rate of the technology cycle and or rapid rate of innovation could mean new applications

-globalization means more consumers of technology products and services, thus a wider reach and bigger markets, albeit a more niche oriented one (another potential source of dislocation)

-importantly, freer markets which allows for more intensive competition could spawn heightened innovation from which new products with widespread application could emerge.

Yet there are many factors from which technology should play a role in shaping markets and the economy. Fundamentally this involves greater dispersion of knowledge and the deeper role of specialization, which some have labeled as the Hayekian Moment.

The impact of which should include vastly improved business processes via the development of organizational capital, provide for more real time activities which immensely reduces transaction costs thereby generate an explosion of commercial or commercial related activities, and significantly flatten organizational hierarchy which becomes attuned to the dynamics of a more competitive environment.

Economic development trends appear to be tilted towards having a greater share of technology based service sector. The more competitive an economy is, the greater the share of the technology based service economy.

This, essentially, is the running transition away from the industrial age towards the information age.

Thus, free market based competition has been directing economic development towards more specialization, or in Austrian economics terms-the lengthening of the production structure.

So a Kindleberger bubble should be on our watch list.

Given the above plus the artificially suppressed interest rates and credit easing policies (a.k.a. quantitative easing), this essentially combines segments of the Austrian Business Cycle with the Kindleberger’s model, which means the answer is a likely yes; the internet sector would seem like candidate of an inflating bubble.

But remember bubble cycles signify a process. This means that internet/technology stocks can stretch higher until it reaches its maximum point of elasticity where eventually it snaps.

Besides that’s what US authorities have been looking for, a replacement bubble.