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US Equity Markets, Technology, Innovation and Wage Growth: Part 1

 

Benjamin Franklin ” Tell me and I forget, teach me and I may remember, involve me and I learn.” Founding Father United States of America

VIX Index also known as fear index reflects the market sentiment in a country. A higher value of VIX shows a high probability of uncertainty in the market usually reflected during crisis. Higher the value, the more volatility the market, with a bearish outlook. If you look into the graph, VIX was at the highest during the subprime crisis. Presently, low value implies a bullish sentiment in the market. CBOE VIX index in the US is based on implied volatilities of S&P 500 index options. Volatility is calculated as the average standard deviation of an underlying asset; it could be stock, index, currencies, etc. According to Investopedia,” VIX is a computed index, much like the S&P 500 itself, although it is not derived based on stock prices. Instead, it uses the price of options on the S&P 500 and then estimates how volatile those options will be between the current date and the option’s expiration date. The CBOE combines the price of multiple options and derives an aggregate value of Volatility, which the index tracks.” Implied Volatility in simple terms in the futurist probability of option price, i.e., call or put of an underlying asset. Implied Volatility is one of the six measures you use to price the Black Scholes Model option. Coming back to S&P 500, which is the best gauge of US stock market, is undergoing one of the longest bull markets in US history. Unemployment which was at 10 percent during the crisis is today around 4.4 percent. Tech stocks have played a major role in the US rally. Source: Google Finance

FANG i.e. Facebook, Amazon, Netflix and Google (Alphabet)  

Are some of the best-performing stocks this year despite the recent tech crash? The market capitalization of Apple, Alphabet, Amazon, and Facebook is $2.3 trillion. (As of yesterday). According to an article published in WSJ, it is estimated that $100 billion of money would come to technology this year in the form of R&D by the companies mentioned above alone. But at the exact time, none of the companies are cheap on Price / Earnings multiple, although they are not close to the astronomical valuation seen during the heydays of the dot-com crisis. Corporate profit margins are at a record high, and investor sentiments are very bullish. Looking at the PE ratio of the S&P 500, it trades at PE 25.73 compared to the average PE ratio of 15.66. PE depends on future earnings and profitability of companies, and this surge in PE is driven by technology companies that have the potential to deliver future discounted cash flows in the range of present PE multiples. Its not expensive compared to its ratio during subprime crisis and tech bubble.

Below fig. Market Capitalization as of 17-06-2017

Stock

 Market Cap ( Billion)

Apple 727
Alphabet 650.27
Amazon 477.54
Facebook 437.71

Amazon celebrated its 20 anniversary this year with a closing price of $987. Listed at $18 in IPO, the stock went through three stock splits over the last three years. $100 invested during IPO would fetch $65,698 today. If you had invested $200 in Amazon stock during IPO, it would buy a two-year MBA degree in an Ivy League school, considering you cannot get any aid. Amazon, which was struggling to make a profit, has emerged as one of the most innovative companies that advanced eCommerce and Echo backed by voice assistant Alexa, a front-runner in artificial intelligence. Echo has sold about $1billion of Echo devices worldwide till now, stealing the march from Apple, which had innovated the market for a virtual based assistant with Siri and Google with Google Assistant. Jeff Bezos, the founder of Amazon, succeeded because of his vision to focus on concentric or unrelated business like the revival of Washington Post, focusing on streamlining state of the art supply chain management through focus on logistics like purchasing a fleet of trucks, etc. Amazon had to innovate constantly by slowly sharing the consumer habits of customers like encouraging digitization of books with a killer app like Kindle, introducing the best inline customer relationship management, discounts, and accelerated delivery through Amazon Prime. Innovation in artificial intelligence has helped in many other ways unimaginable. According to an article published by Time Magazine, Alexa recording to be the first time produced in court for a crime hearing to bring in evidence for a murder trial. Some might argue on the ethics of the case, but ultimately the purpose is holistic and very reasonable. Let’s look at the above quote. Jeff Besos had the vision to transform the eCommerce industry, but he did not envision the sub innovations on the way. The success of Spotify and Netflix opened the market for online music and movies, enabling Amazon to capitalize on its existing business and customers to start Amazon Music and Movies. Paypal changed the way we do business over the net. The Amazon model helped Alibaba and Flipkart successfully replicate the core model effectively in China and India. Google transformed the world holistically by mapping the world and giving the killer app free with android phones. Android today is the most successful operating system used by all smartphones except Apple. This remains one of the smartest moves in recent business history to collaborate in a very profitable high margin smartphone market dominated by Apple at one point in time.

The idea’s genesis comes from Bill Gates. His legendary vision not to sell MS-Dos to IBM but to roll out like royalty in computers led to a proliferation of the operating system. It defined an era of jump in innovation. Larry Page and Sergey Brin, Google founders, refined the way we search online through free-based search toppling Alta Vista as the quintessential search engine. Larry bet on driver-less car something APPLE and Uber are also striving to succeed. Facebook’s foray into virtual reality and many other sectors formed a futuristic way of life. All is a small wave of philanthropy generated by entrepreneurs in the United States. Bill Gates defined an era of social impact and international development with Pierre Omidyar, Larry, Mark contributing immensely. Sergey Brin’s largesse in life sciences helped define a generation of holistic innovation in medical care. One innovation leads to another through a mutual collaboration leading to concentric creation. The market’s pie increased, leading to perfect competition to make the market a buyer’s market, encouraging ideal competition, increase in productivity, and economic growth.

But ==> There is a catch…

US wage growth has been tepid. Article in Bloomberg Business Week estimates that the average hourly earnings growth this year is just 2.3 percent compared to 4 percent the last time the jobless rate was this low.

Alexander Hamilton “A national debt, if it is not excessive, will be to us a national blessing.” First Treasury Secretary and Founding Father United States of America. 

Despite low inflation, Janet Yellen did the right thing in increasing the FED rate because $4.5 trillion of bonds purchases did not help generate corporate lending and injection supply-side inflation over the last decade. It did, however, help the US in recovering from the second-worst stock market crisis in US history. Increasing the FED rate is very important to avoid another problem in asset markets. Over the last decade, real wage growth has been constant for Americans, i.e., wage growth adjusted for inflation, while the retail price of goods has increased much more.

 
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