What If?

The love affair with junk never ended... OpenAI's quest for a higher valuation... Artificial intelligence is hot... The venture-capital and private-equity bubbles are still inflating... Excitement for creative financing (again)... 'Zombies' everywhere... What if?... [Stansberry Research Logo] Delivering World-Class Financial Research Since 1999 [Stansberry Digest] The mega-bubble still hasn't popped... OpenAI's quest for a higher valuation... Artificial intelligence is hot... Excitement for creative financing (again)... 'Zombies' everywhere... What if?... --------------------------------------------------------------- What if the biggest mega-bubble in all recorded history hasn't even topped out yet? Anyone talking about the start of a new bull market is getting way ahead of themselves. I (Dan Ferris) have said more than once that this massive mega-bubble is still going on. Folks keep chasing all sorts of unprofitable garbage. They haven't learned their lesson. Sure, stocks declined from their November 2021 peak through the end of 2022. But they're still at mega-bubble valuations. And the excesses are still everywhere today. I realize that I'm in the minority, though. That's why it still surprises me when I find evidence in the mainstream media that I'm right... This headline from the Wall Street Journal on Tuesday is a great example... Longtime Digest readers will recall that we first wrote about OpenAI [way back in September 2020](. It's the company behind ChatGPT, the artificial-intelligence ("AI") app that has taken the world by storm this year. The Journal article is incredible to me... OpenAI is looking for a way to capitalize on the AI boom. It's seeking a new market valuation of up to $90 billion. And yet, as the article revealed, the company expects to reach $1 billion in revenue this year. In other words... OpenAI, an unprofitable startup, is currently valued at 80 to 90 times sales. Meanwhile, Nvidia (NVDA) makes AI-friendly semiconductors. It trades for more than 100 times earnings and more than 32 times sales today – absurdly high valuations for any company. Now, the values of private, venture-capital ("VC") investments like OpenAI are different from the values of publicly traded companies like Nvidia. But in their respective arenas, both valuations are super high. AI is hot. And everywhere you look, it shows. Despite unprofitable tech companies getting bludgeoned last year, a lack of profits still doesn't bother some folks... According to one report, OpenAI has generated at least $540 million in net losses since it launched ChatGPT in November 2022. And if it ever becomes profitable, it must pay a substantial portion of its future profits to its biggest investor, Microsoft (MSFT), until the tech giant gets its money back. Microsoft first invested $1 billion in OpenAI in 2019. Then, it put another $2 billion into the business in 2021. And this past January, it threw in $10 billion more. After Microsoft's third investment, Fortune reported on the deal... Microsoft is investing $10 billion in OpenAI and the transaction values the company at close to $29 billion. In exchange, Microsoft is getting the right to 75% of OpenAI's profits until it earns back this $10 billion plus an additional $3 billion it has already invested in the company – $1 billion in 2019, and another $2 billion which it quietly put into OpenAI in 2021. After that, Microsoft will be entitled to a further 49% of OpenAI's profits until it earns a profit of $92 billion. Microsoft made its third investment eight months ago. And as this Fortune report shows, OpenAI's valuation was nearly $29 billion at that time. The high end of the valuation range of 80 to 90 times sales would give Microsoft a paper profit of roughly $27 billion today. At 80 to 90 times sales, we're either still in a mega-bubble or OpenAI is the greatest business ever created... The Journal also notes that OpenAI won't issue new shares for the proposed sale. The company wants employees to cash out by selling their existing shares to other investors. So naturally, it would like to get the highest possible valuation. I don't know if any of these proposed sales have taken place yet. But according to the Journal, the company has already spoken with potential investors. The article implied that a "tender offer process [is] under way now." Silicon Valley VC firms such as Sequoia Capital and Khosla Ventures have bought OpenAI shares through tender offers in the past. If anybody can pay 80 to 90 times sales for an unprofitable startup and make money doing it, it would be Silicon Valley VC firms... They often buy stakes in brand-new companies with no sales. And they've obviously still made plenty of money over the years. Otherwise, folks wouldn't talk about them so much. At first, I wondered how OpenAI's valuation could change so much in such a short period... But as much as I hate to say it, that part makes sense. Investments in these types of companies are like "out of the money" call options. If they go "in the money" (or even head in that general direction), investors can make a fortune. But if they never do, investors can lose it all. I've also noticed something else over my decades in the markets... Companies that grow their sales from zero to a big number often get a huge bump in valuation. The same thing happens with companies that go from consuming cash to generating it, as well as companies that go from generating losses to reporting profits. ChatGPT isn't even a year old yet. And apparently, a lot of companies are licensing OpenAI's "large language model" technology to incorporate into their businesses. So OpenAI's revenue is ramping up fast. Maybe that trend will continue. If that happens, the valuation of 80 to 90 times sales could eventually seem tame in hindsight. But today is not that day. I'm not saying VC investors are idiots. They're clearly not... My ultimate point is much simpler. It's the same thing I said about the stock market two weeks ago (and in a slightly different form in the current issue of The Ferris Report)... Despite the bear market in stocks in 2022 and the bear market in bonds that started in 2020 (and continues to this day), stocks are still near extremely expensive levels compared with the two metrics that are highly correlated with ensuing market performance in the past. Higher interest rates should've led to lower stock market valuations. But they haven't so far. And they should've crushed the valuations of private investment vehicles like VC even harder. But they haven't so far. VC and other private investment vehicles tend to be highly illiquid. They lock up investors' money for years. So investors don't get a liquidity premium like with publicly traded stocks. Illiquidity can be great on the way up. But it's usually a death sentence for valuations on the way down. That's because it usually involves a lot fewer buyers offering to pay much less than sellers want. It's normal for profitable, growing companies to trade for 20, 25, or even 30-plus times earnings in the stock market (at least for the past couple decades). However, those same companies would trade well below that level if they weren't publicly traded. So when I see VC investments like OpenAI valued at 80 to 90 times sales, I cringe. And I wonder how long it will take for that part of the mega-bubble to burst. The leap from 29 times sales to 90 times sales is large. And eight months is a short period. But the thing is, VC didn't have a particularly difficult 2022. As Forbes reported in March... Seed and early-stage valuations remained resilient in 2022, rising slightly despite the later stage pricing pressure awaiting them. While values continued to modestly grow at the earliest stages, later-stage companies saw valuations drop 10% below those of 2021. A 10% drop is nothing. When a publicly traded stock falls 10%, no one bats an eye. Instead, everybody screams, "Buy the dip!" And just like that, life goes back to normal. The only permanent damage in the financial markets so far ([besides the bank failures earlier this year]( seems to be in cryptos and the worst-of-the-worst publicly traded, cash-burning, garbage tech stocks. So I see why you could argue that the bear market is over, why it wasn't so bad, and why we're now off to the races with a new bull market. It might feel like we've escaped danger. And VC isn't the only type of private investment vehicle that investors love right now... Private equity is benefiting from AI interest, too. That's the message I got recently from Michael Sonnenfeldt... Sonnenfeldt is the founder, owner, and chairman of Tiger 21. The group describes itself as "the premier peer-to-peer learning network for high-net-worth first-generation wealth creators." Last Friday, Sonnenfeldt told CNBC that investors in Tiger 21 expect a "boom for companies exposed to AI and climate." He also noted that they've tripled their allocation to private equity over the past decade. Unlike VC, private-equity firms endured a rough 2022 as interest rates rose and equity valuations declined. Rising interest rates hit them harder than declining equity valuations... That's because these firms borrow most of the money they invest. A 60% debt-to-equity ratio is typical. And their investments aren't public. So these firms can report whatever valuations they want to their investors – who typically have their money locked up for 10 years at a time. In fact, the private-equity world is on fire with optimism today... It's loading up on debt like never before, even though these firms' cash balances haven't been this low since 2008. And no debt frenzy is complete without a lot of enthusiasm for creative financing... In private equity today, that's the "manco loan." Manco is short for management company. And Bloomberg recently explained how these loans work... Taken by the management company or the entity that oversees the [private-equity] investments, this debt uses cash flows such as fee streams and equity returns as collateral. As I said, private-equity firms value their assets wherever they want. And their fee streams are based on the asset values. So in that way, manco loans seem like a great idea. Of course, if private-equity firms are ever forced to get real about valuations and their fees drop, they'll be in a world of trouble. A decade ago, manco lenders had to call clients and offer the loans. But now, these lenders say that demand has never been higher... Clients are calling them. And they're paying up for the loans. Rates on manco loans range from 10% to 19%, according to Bloomberg. At this point, an astute investor might say... But Dan, you're reading about all this stuff in the Wall Street Journal, Bloomberg, and Fortune. That means everybody knows about it. So if the market isn't terrified about all this stuff by now, maybe it never will be. Normally, I would agree. But as one investment manager with more than $3.5 billion in assets under management told Bloomberg... The investor universe is unbelievably unaware of the underlying leverage throughout this entire [private-equity] ecosystem. Nobody ever tells you something else about private-equity investments... They can (and do) go sour. When that happens, it really messes things up for the private-equity firm's investors. And as Bloomberg reported last week... Across the $12 trillion industry, hundreds of private-equity firms are lumbering on years after their funds' intended twilight with no new fundraising in sight – a cohort that investors and regulators have dubbed "zombies." That's an important tidbit in this whole saga... Many pension funds have maxed out their private-equity allocations. When they grow impatient waiting for the private-equity firms to achieve their goals, pension funds wind up selling their stakes at discount valuations – either losing money or getting subpar returns. Private-equity zombies are different than the zombies you normally hear about... The term also describes publicly traded companies that can't service their debts. In an interview last week with Josh Brown and Michael Batnick, investor Jeremy Grantham talked about that other kind of zombie. Specifically, he said he's short the Russell 2000 small-cap index partly because it often has negative earnings and is loaded with them. That's a classic sign of a debt-fueled mega-bubble – just like the one in private equity. I've mentioned Grantham many times in the Digest (like [here]( and [here](. He probably knows more about market bubbles than anyone living today. He has studied dozens of them over his long, successful career (which started in the 1960s). During the recent interview, Grantham told Brown and Batnick that the current mega-bubble is on par with 1929 and 2000. Grantham based his analysis on the cyclically adjusted price-to-earnings ("CAPE") ratio and other factors. That brings us full circle to the bubbly valuation for OpenAI... This idea appears to have its roots in a trend that marketing guru Scott Galloway identified in a 2017 blog post called, "Losses Are the New Black." As Galloway explained... The relationship between investors / shareholders and firms has largely been the same for a century: We (investors) will fund losses for 1-3 years, and then you (firm) begin making profits you distribute back to us. No more. The firms [that market] reward with the greatest valuations have turned this on its head and replaced profits with vision and growth. Six years after that blog post, "vision and growth" still seem to be the priorities – at least for the VC firms buying OpenAI stakes. And it's not just unprofitable AI companies... Sure, they're the most egregious representatives right now. But the entire stock market is still trading at bubble valuations (as I told you recently [here]( [here]( [here]( and many other places – including the current issue of The Ferris Report). I've thought about writing an entire Digest from the opposite point of view... What if I'm 100% wrong to be so bearish? What if the folks making all those new private-equity loans know exactly what they're doing and everything turns out just fine? What if AI changes the world even more than the Internet did? And what if OpenAI goes public soon and becomes the next Microsoft, Amazon (AMZN), or Alphabet (GOOGL)? What if the CAPE ratio no longer works and the market isn't egregiously overvalued the way it was in 1929 and 2000? What if Grantham is overplaying his hand with the zombies? What if, what if, what if? You get the point. And yet, like Grantham, I can't stop reminding myself that this time is never different. I can't stop remembering that all bubbles end in brutal bear markets. And I can't stop thinking how the biggest mega-bubble in all recorded history hasn't even topped out yet. Valuations that were way too high will go way too low before they become normal again. For the CAPE ratio, "normal" would be about roughly 50% below today's levels. If that were to happen, the S&P 500 Index would fall to about 2,150. For perspective, the benchmark stock index first achieved that level in 2016. So at a minimum, this mega-bubble would set many investors back seven years. If the current episode ends up like the 1929 and 2000 mega-bubbles, the S&P 500 might sink below 1,100. It first hit that number in February 1998. You might recognize that year... Six months later, the Federal Reserve bailed out the highly leveraged [Long-Term Capital Management hedge fund](. That move ushered in the current era of ultra-easy money, bubbles, and bailouts. Wouldn't it be poetic if the mega-bubble crashed and completed a round trip back to that level? Perhaps we're already on that path without realizing it... The S&P 500 is down about 6% since late July. And the tech-heavy Nasdaq Composite Index has fallen around 8% over the same span. Maybe this is the start of the crash I've expected for months. What... if... I'm right and the coming carnage is much worse than almost anyone can imagine? So yeah... I'll probably never write that Digest after all. --------------------------------------------------------------- Recommended Links: # ['Market Heart Attack']( In 2009, Joel Litman warned investors about 57 different companies that were about to go bankrupt – 50 collapsed within days. Now Litman just stepped forward with another big warning. If you own a single share of stock – much less a business... a mortgage... or a loan of any kind – this will affect you. [Full story here](. --------------------------------------------------------------- # [Can Kevin Kisner Collect $4,000 in 60 Seconds?]( Today, you can tune in to a Real Money Demo featuring a professional athlete who will attempt to collect $4,000 in 60 seconds by selling put options. Will he succeed... or lose money? Watch his transaction on Costco Wholesale (COST) and find out – [including how to begin using this strategy yourself](. --------------------------------------------------------------- New 52-week highs (as of 9/28/23): Costco Wholesale (COST), Denison Mines (DNN), Enterprise Products Partners (EPD), Liberty Energy (LBRT), Ryder System (R), Sprouts Farmers Market (SFM), Shell (SHEL), Sprott Physical Uranium Trust (U-U.TO), Global X Uranium Fund (URA), and Sprott Uranium Miners Fund (URNM). In today's mailbag, more subscribers share their takes on theft in the U.S., which we wrote about [in Wednesday's Digest](. Do you have a comment or question? As always, e-mail us at feedback@stansberryresearch.com. "Really? You can't tell us whether stealing is more rampant than 5, 10, or 50 years ago? Of course it is!" – Subscriber Dyana H. "At my local Canadian Tire hardware store, most things are locked up. You have to get an employee to unlock the item then they walk it and you to the cashier. It has made shopping at the store a long, drawn-out pain." – Subscriber Neil S. "I have observed the number of things under lock and key at many locations increased exponentially starting with the rise in inflation. Most interestingly, I have watched this occur in locations not remotely identified as high crime areas. "The longer inflation has continued, the more things have been locked up. It cost them some sales to me last Christmas season. I couldn't find anyone to unlock the cases for me, so I went online and ordered from another vendor. "This worked out great for me. I ended up saving about 15% over the in-store price even after paying for shipping. Anything I want that is locked up, now I just order online from a different vendor than the one locking their wares up." – Subscriber D.H. "I live in Sanford, Maine. We have a Lowes. An employee told me last year, theft had increased greatly because of the more difficult times." – Subscriber James R. "Hi, I live in Portland, Oregon. The Target stores that closed here are all located in zones where high homeless populations 'live.' Before they closed, they put flashlights, tents, sleeping bags, tarps, etc. in locked cages on the retail floor! Apparently, the theft just switched to other goods that could be fenced for cash!" – Subscriber Jim H. "I'm a dentist in Las Vegas and talk to many people, I recently visited with one of my patients that has worked for Dillard's [for] many years and has never seen more blatant theft than [now]. They described to me that an SUV or two will pull to the entrance, several dangerous men run in with big bags and scoop all the items off the makeup and perfume counters into their bags and run out, being gone well before the police arrive. "[The employees] are strictly warned by the store management to not try and stop them. They are scared for their lives when these thieves rush in, they are fast and dangerous. "I see this situation getting worse, I fear the day when it's too dangerous to drive your nice car or wear your nice watch without being robbed, beaten, or heaven forbid, killed. (I hope and pray that day never comes, but there have been places and times in history that it has)." – Subscriber Scott M. "Here in the Fort Myers-Naples area, even with the aftermath of Hurricane Ian, I haven't seen or heard of any instances of flash theft mobs, and I assume that we're only experiencing the usual level of low-level individual shoplifting. "I attribute this to several factors: a strong culture of law enforcement, a large elderly population who still retain the cultural values of the silent and early boomer generations, and a larger percentage of people in the middle and upper classes who are not (yet) feeling the effects of subsistence or lower asset levels. "We are seeing a greater number of empty commercial real estate spaces, as well as a number of cleared areas of land for new construction in both commercial and residential areas which have lain idle for 6 months or more. Admittedly, some of these areas of halted construction are a result of the large requirement for rebuilding of hurricane-damaged properties. "However, if even some of this is a local indication of the overall effect of CRE assets and decreased availability of construction loans on the economy, it remains to be seen what the local effects will be in the future." – Subscriber Otto K. "When are companies going to start suing governments for failure to provide police protection? Most of these companies pay large amounts of taxes for this protection and they are not receiving it." – Subscriber C.L. Good investing, Dan Ferris Eagle Point, Oregon September 29, 2023 --------------------------------------------------------------- Stansberry Research Top 10 Open Recommendations Top 10 highest-returning open positions across all Stansberry Research portfolios Stock Buy Date Return Publication Analyst MSFT Microsoft 11/11/10 1,169.4% Retirement Millionaire Doc MSFT Microsoft 02/10/12 983.9% Stansberry's Investment Advisory Porter ADP Automatic Data Processing 10/09/08 874.8% Extreme Value Ferris wstETH Wrapped Staked Ethereum 02/21/20 604.3% Stansberry Innovations Report Wade WRB W.R. Berkley 03/16/12 582.0% Stansberry's Investment Advisory Porter BRK.B Berkshire Hathaway 04/01/09 533.1% Retirement Millionaire Doc HSY Hershey 12/07/07 489.2% Stansberry's Investment Advisory Porter AFG American Financial 10/12/12 390.7% Stansberry's Investment Advisory Porter TTD The Trade Desk 10/17/19 324.9% Stansberry Innovations Report Engel ALS-T Altius Minerals 02/16/09 305.2% Extreme Value Ferris Please note: Securities appearing in the Top 10 are not necessarily recommended buys at current prices. The list reflects the best-performing positions currently in the model portfolio of any Stansberry Research publication. The buy date reflects when the editor recommended the investment in the listed publication, and the return shows its performance since that date. To learn if a security is still a recommended buy today, you must be a subscriber to that publication and refer to the most recent portfolio. --------------------------------------------------------------- Top 10 Totals 4 Stansberry's Investment Advisory Porter 2 Extreme Value Ferris 2 Retirement Millionaire Doc 2 Stansberry Innovations Report Engel/Wade --------------------------------------------------------------- Top 5 Crypto Capital Open Recommendations Top 5 highest-returning open positions in the Crypto Capital model portfolio Stock Buy Date Return Publication Analyst wstETH Wrapped Staked Ethereum 12/07/18 1,456.3% Crypto Capital Wade ONE-USD Harmony 12/16/19 1,044.1% Crypto Capital Wade POLY/USD Polymath 05/19/20 1,022.9% Crypto Capital Wade MATIC/USD Polygon 02/25/21 759.1% Crypto Capital Wade BTC/USD Bitcoin 11/27/18 619.2% Crypto Capital Wade Please note: Securities appearing in the Top 5 are not necessarily recommended buys at current prices. The list reflects the best-performing positions currently in the Crypto Capital model portfolio. The buy date reflects when the recommendation was made, and the return shows its performance since that date. To learn if it's still a recommended buy today, you must be a subscriber and refer to the most recent portfolio. --------------------------------------------------------------- Stansberry Research Hall of Fame Top 10 all-time, highest-returning closed positions across all Stansberry portfolios Investment Symbol Duration Gain Publication Analyst Nvidia^* NVDA 5.96 years 1,466% Venture Tech. Lashmet Microsoft^ MSFT 12.74 years 1,185% Retirement Millionaire Doc Band Protocol crypto 0.32 years 1,169% Crypto Capital Wade Terra crypto 0.41 years 1,164% Crypto Capital Wade Inovio Pharma.^ INO 1.01 years 1,139% Venture Tech. Lashmet Seabridge Gold^ SA 4.20 years 995% Sjug Conf. Sjuggerud Frontier crypto 0.08 years 978% Crypto Capital Wade Binance Coin crypto 1.78 years 963% Crypto Capital Wade Nvidia^* NVDA 4.12 years 777% Venture Tech. Lashmet Intellia Therapeutics NTLA 1.95 years 775% Amer. Moonshots Root ^ These gains occurred with a partial position in the respective stocks. * The two partial positions in Nvidia were part of a single recommendation. Editor Dave Lashmet closed the first leg of the position in November 2016 for a gain of about 108%. Then, he closed the second leg in July 2020 for a 777% return. And finally, in May 2022, he booked a 1,466% return on the final leg. Subscribers who followed his advice on Nvidia could've recorded a total weighted average gain of more than 600%. You have received this e-mail as part of your subscription to Stansberry Digest. If you no longer want to receive e-mails from Stansberry Digest [click here](. Published by Stansberry Research. You’re receiving this e-mail at {EMAIL}. 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