Key Takeaways
- The current technological boom, particularly in AI, is reminiscent of past episodes of excessive hype and speculation, such as the dotcom bubble and the railroad mania.
- Investors should be cautious and consider the potential pitfalls of investing in new technologies, including the risk of failure and the shifting sands of winning technologies.
- A review of past technological breakthroughs suggests that early investors often suffered from excessive hype and that failure was a common outcome.
- The history of technological advances suggests a cautious approach, and investors without specialist knowledge of the technology should display a high degree of caution.
- The current environment, with high valuations and a benign economic period, is prone to speculation and excess capacity, making it a challenging time for investors.
Introduction to Technological Breakthroughs
The current period of technological breakthroughs, particularly in AI, is not unlike past episodes of excessive hype and speculation. Investors who lived through the dotcom bubble and other technological booms can attest to the fact that these periods are often marked by extreme valuations, speculation, and ultimately, a reckoning. The phrase "engines that drive markets" is a reminder that technological breakthroughs can have a profound impact on the economy and the stock market. However, as Alistair Nairn’s book "Engines That Drive Markets" notes, investors did not fare well during extended periods of past technological breakthroughs.
The Dotcom Bubble
The dotcom bubble is a prime example of the dangers of excessive hype and speculation. Well-respected investors such as Warren Buffett and Seth Klarman were warning about excessive market valuations as early as 1995, but their warnings fell on deaf ears. The Nasdaq 100 returned an astonishing 40% per year from 1995 to 1999, making it seem like the skeptics were wrong. However, when the bubble burst in 2000, investors who had invested in stocks that were not caught up in the excesses of the internet fared much better. It took the Nasdaq 15 years to reclaim its 2000 high, and the S&P 500 took until 2013 to reclaim its 2000 high on a sustained basis.
The Industrial Revolution
The Industrial Revolution was one of the most important technological breakthroughs of the modern era, driving economic expansion in Europe and the United States during the 19th century. However, investing in railroads, which were a key part of the Industrial Revolution, was not rewarded in absolute or relative terms for 50 years after the railway bubble burst. The introduction of new technology, such as the steam engine, drove down the cost of many goods, but it also led to the need for large amounts of capital to build out the infrastructure. This made the industry vulnerable to excessive hype and speculation, which ultimately led to a reckoning.
The Electric Light Era
The development of electric lights is another example of the challenges and pitfalls of investing in new technologies. The battle between arc lighting and incandescent lamps was a long and contentious one, with arc lighting initially seen as the winning technology. However, incandescent lamps ultimately proved to be the better technology, and companies like General Electric (GE) were formed to take advantage of this new technology. The development of electric lights took decades, not months, and the price of Edison’s electric company struggled for many years before GE was formed in 1894.
Current Environment
The current environment, with high valuations and a benign economic period, is prone to speculation and excess capacity. The Nasdaq 100 and the S&P 500 are highly concentrated in AI-related stocks, making them vulnerable to a period similar to the post-internet bust period. The history of technological advances suggests a cautious approach, and investors without specialist knowledge of the technology should display a high degree of caution. The risk of failure and the shifting sands of winning technologies are real, and investors should be mindful of these risks when investing in new technologies.
Conclusion
In conclusion, the current period of technological breakthroughs, particularly in AI, is reminiscent of past episodes of excessive hype and speculation. Investors should be cautious and consider the potential pitfalls of investing in new technologies, including the risk of failure and the shifting sands of winning technologies. A review of past technological breakthroughs suggests that early investors often suffered from excessive hype and that failure was a common outcome. The history of technological advances suggests a cautious approach, and investors without specialist knowledge of the technology should display a high degree of caution. As Alistair Nairn notes, the early stages of a breakthrough technology are marked by a battle between the cash burn rate and the retention of investor confidence, making it a challenging time for investors.