E114: Markets update: whipsaw macro picture, big tech, startup mass extinction event, VC reckoning

We have to go back to the historic statistical average, which means that a 50 to 60 percent mortality rate seems pretty reasonable. By the way, in the dot-com bubble, that's what we went through. In 2001 to 2005, we had a 50 percent mortality rate.

Now the problem is that so many of these series B, C, D and E companies have a true market value. They're not a valueless company, but the true market value of them is probably less than the total preference stack of the capital that's gone in. So they're worthless.

I actually think this tweet storm is basically correct is, you know, I've referred to on this show before that I think one of the things that built up during this bubble is latent startup mortality. So many startups that should have died from not being able to raise the next round lived because they're able to raise money.

I'm also starting to see really gnarly term sheets, people foreclosing on businesses, people offering like literally had a term sheet come in, like we're going to forgive the last note and take this business over for a dollar and everybody gets wiped out.

On top of all this inefficiency is a dependence on venture debt. I don't know if you're seeing this, Sacks, but the amount of focus on adding debt to unprofitable companies over the last five years has been just extraordinary.

So look, I just wonder what I don't trust is whether the return models on venture debt that were created over the last five to 10 years will be a good predictor of what the returns will be in the next five to 10 years when a lot of the mortality that should have happened in the past now happens in the future.

the venture business of the last 15 years, everyone since 2008, everyone's been trained, and all the younger people that have come up and are now partners and running the firms on an environment of momentum investing, rather than fundamental investing. And so there is also a question of how fit the investors are for a market space where valuations are flat or descending

Because we went through a phase where if you were a VP of product or a VP of design or a VP of engineering at a well-known startup, that was the most obvious onboarding into a venture firm. But if you just look back at the data, that cohort of people has actually never made money.

I'm seeing Series A and Series B companies that literally don't understand their own accounting. And so when we start talking to their accountants, there is a huge gap between what the accountants think of this business and what the founders think of these businesses.

And I think probably where we're sitting at this moment is you'd have to say that the risks of inflation returning are slightly higher, but the risks of a recession are slightly lower because with this kind of jobs report, better chance of having a soft landing here.

And that the implication of a tight job market is wages go up and wages go up, inflation goes up and because companies need to charge more because they have to pay more to get talent. And this obviously continues to support the escalatory spiral that drives inflation.

Because we don't have this first inflationary cycle under control, there could be a risk that that we reignite inflation. And so then, then they have to capitulate the Fed has to capitulate again and start another hiking cycle.

there is this friggin tidal wave of AI companies and there is this incredible amount of lubricant in the dry powder that's sitting on the side of the market right now that all these venture funds raised in the last two years that is going to lubricate all these AI companies into every vertical in every market.

So you're right, they may take this money and misallocate it into these companies that are just rebranding themselves.

Now, at the same time, I do think that if AI is the next wave, and the next sort of platform opportunity, as we all think it is, I do think that places more of an emphasis on technical skills and I was, I was literally just having this conversation at Kraft that gee, maybe the next hire we should make at Kraft should be someone who's really deep technically so they can help go deeper on technical due diligence of AI companies.

And long story short, he didn't. That was a head fake, and the markets just ripped higher. Then we went into the COVID pandemic and all of that stuff happened. So I think we're about to replay a little bit of that, at least in the next 30 to 90 days.

The tech ecosystem is clearly going through a reset and a recession. Job cuts are now the rule, valuations are much lower, whereas in the overall economy, we saw jobs support today of over 500,000 new jobs. So, the fact of the matter is that even if the overall economy avoids a recession, that doesn't mean that things are just going to bounce back. Tech is a boom bust cycle and we had a phenomenal 10 years of boom.

So these are like really interesting trends that I think just say that as rates creep back up, and if we can intersect that with some improvements in technology over the next five to 10 years that we've all talked about, it could be a real boon for startups and startup investing.

If that holds true, so that may be kind of a counterbalancing effect here where it may take three years before that effect plays out, where there's more of a dearth of capital.

I think to the point of Chamath's study that, you know, that the counterintuitive finding in his study was that great companies are created during times when we're not in a bubble

Over two thirds of companies now that have gone public since 2020 are worth less than the capital that they have raised as in the venture market. So if they were still private, they would be worth less than their preference stack.

But what people need to understand is that even if we revert all the way to the mean of eight, which I think at some point we will, that's still well below the bubble of 21 where they got to 16

And if you think it's getting back to 12 or 16, it's not happening, in fact, it's not happening.

I think the reliable way that we can look at this for the future is that we're never going to see these kinds of multiples again, unless rates are zero.

And they basically started doing some rifts and basically just getting much more efficient in what they're doing and specifically taking out layers and layers of middle management. I mean, that was really the big thing. So they kind of took a page out of Elon's book in terms of what Elon had done at Twitter.

And they're up to, I actually bought it based, the day they had the layoffs, I put in a buy order and it was closed at $94 and now it's at 193

And so, Facebook now, you can credibly see a path where Facebook could chunk out hundreds of billions of dollars of total shareholder value returned over the next four or five years. And so, for value investors, it's somewhat of a kind of a no-brainer. I mean, nothing's a no-brainer, but really, really attractive value fundamentals right now.

It's very hard, in other words, Sacks, to have a recession if people are employed, if people are employed.

it's good if we have a soft landing in the economy. I wouldn't assume that that's going to happen. I still think there's a really good chance of recession later this year