Original URL: http://www.theregister.co.uk/2010/06/26/apple_short_term/

The long and the short-term of it: Apple's future

Jam today tastes oh so good

By Tim Worstall

Posted in Financial News, 26th June 2010 09:02 GMT

Comment We all know that markets are terribly short term things, don't we? Well, we're told often enough at least: the City and the stock market are only interested in what can be had now, immediately, and are not ready to invest for the long term. Venture capitalists want quick returns, not to build a solid business. The whole Anglo Saxon-style capitalist adventure is driven purely by greed and impatience with no thought of the future at all.

At one level of seriousness this is the sort of thing pumped out by Will Hutton, who seems to think that banks making loans rather than shareholders making equity investments will bring about the needed concentration on the far horizon. At the other end of barking moonbattery we've any number of teenage Trots and the Guardian's editorial conclave insisting that only government has the necessary long term view, and thus much more of how much is invested in what should be determined by whoever kisses enough babies to get the most votes.

Now it is of course entirely possible that all of this is true. Perhaps that's the way the world really does work? But in order to test this idea we actually need to, er, test it against the real world. A useful (if far too infrequently done in economics) part of the scientific ideal is: does our theory actually accord with reality? Which brings us to the recent news about Apple. You might recall this story from a couple of weeks ago.

The moment came Wednesday when Apple, the maker of iPods, iPhones and iPads, shot past Microsoft, the computer software giant, to become the world’s most valuable technology company.

This was the first time Apple had been worth more than Microsoft since 1989.

If we were to think of markets as being purely short term in outlook we'd be rather puzzled by this. While the companies' revenues are not dissimilar, profits most certainly are. Micro(whatevertoday'sinsultingnameis) makes somewhere between two and three times the profits of Apple. It has more cash in the bank, more short term investments and is a near monopolist in a way that Apple simply is not. Yet Apple is worth more on the stock market? Why?

It's certainly possible in theory that the critics could be right: investors in markets might be driven by nothing but short term greed while politicians have longer timescales to work to and thus are able to take a more holistic view of what should be done. And in both theory and practice we know that there are things which markets do not take account of, and which are not included in market prices. These are known as “externalities” (things external to markets) and pollution is the simplest example. If I can profit from poisoning you with no comeback then I probably will do so. Even if I don't my competitor will - I'll go bust and you'll still get poisoned. Regulation to make sure that my pollution becomes a cost of my business might need to be imposed by government, and this is what all the shouting over carbon taxes and cap and trade systems is about.

However, what might be true in theory isn't necessarily true in practice, at least in the field of economics. That concentration on the long term, when communism would finally arrive, didn't seem to help either the people or the environment of the Soviet Union all that much after all. Nor did the absence of short termism and the exploitation of the workers improve things all that much in Mao's China. So there's clearly something else at work as well. Perhaps it's that while politicians could look to the long term they don't necessarily do so?

Examples of this aren't too hard to find: Peter Mandelson was handing out the grants and guaranteed loans with abandon in the run-up to the last election, so much so that civil servants were demanding written instructions that he really did want to override their advice and go ahead. And, of course, we now see St Cable of Vince pondering whether to rescind all these clearly purely electioneering handouts to favoured groups.

Or perhaps the view of the public (or local and state employees) pension schemes in the US might be another example. Over the years, these liabilities have built up so much that a number of localities are on the point of going bust.

The impetus for the deals likely to cause municipal bankruptcies isn't hard to determine. Politicians (mostly Democrats, but by no means all) rely upon the unions representing government workers for support in money and manpower at election time. It's very difficult to push through a 10 or 20 per cent pay rise to reward such support as it's pretty blindingly obvious what is being done. But change the rate of accrual of pension benefits, or the age of retirement, or add a cost of living adjustment clause to payouts and nobody really notices.

And of course by the time, 20 years down the line, that the cost has to be coughed up the politicians are long gone. This explains why places like Yonkers have police sergeants retiring at 50 on pensions higher than their usual wages. Just as an example of one rule: overtime payments in the last year of working are added to the base salary for pension calculations. ConEd, the local electricity utility, is then “encouraged” to hire off duty cops in their last year of work to direct traffic around work taking place. Such overtime can more than double pay in that year and then that's the number which is used to calculate the pension payable for the next 30.

This isn't exactly an example of politicians taking the long view - it's precisely the opposite. In return for votes now we'll shake down the taxpayer in 20 years time.

At a rather grander level of statecraft, we might look at Chavez in Venezuela. The economy as a whole is reliant upon oil exports (some 18-20 per cent of the entire GDP) in a way that we never were on North Sea oil. The state-owned oil company, PDVSA, is also the major cash cow for the government, and boy has that cow been cashed. While stores selling cheap food for the poor might be a good idea, taking next year's investment budget off the oil company to pay for them isn't exactly looking to the long term.

It should be pointed out though that it doesn't actually have to be this way. Norway has famously piled up its oil money into a fund rather than splurging it on current spending. Indeed, they're rather famous for saying that the oil fund cannot even be invested, let alone spent, inside Norway, but then perhaps what works for Vikings doesn't work for the rest of us.

But if we have, in theory, markets being terribly short term and, in theory and practice, governments being both terribly short term and long term prescient, can we also see markets being long term?

Well, yes, we can in fact, as the Apple valuation shows.

The general response from those in the market has been that Apple has better prospects. With the iPad and iPhone they're in consumer electronics, not computing, and it's thought that this will lead in the long term to a better outcome for investors. Stepping outside the technology arena, there's only one listed company more valuable than Apple now. Exxon, even though 2009 was a bad year, earns something like eight times the profits that Jobs' merry band do... and is only worth something like 120 per cent of Apple's value.

This isn't to say that the markets are right in these valuations, but to point out that they can only be explained by people being long term in their estimations of these values and thus that markets can indeed be long term in their outlook.

As can venture capitalists: one company in the space where my day job resides is Bloom Energy, which has swallowed $400 million in venture capital money over the past seven years. At the risk of being accused of a Christine Keeler moment (“well, he would say that wouldn't he?”) I'd say that it's pursuing the right technology at least, and as for its success in rolling out the tech... we'll have to see. But it's not evidence of any short term thinking on the part of investors, which is the point to be made here.

There's not in fact any grand overarching point to be made here. Some governments, some of the time, do make decisions on the long term merits or otherwise of a proposal. Others will do whatever it takes to win the next election. There's certainly no shortage of stories about how the markets sometimes act in a short term manner: bankers chasing that next bonus is only one possible example. In the end, it simply depends.

It depends, in fact, upon the incentives being faced by those politicians and market participants. If we would vote only for those who do think of the long term, invest only in those companies building for the future, then that's what they'll all do. If we're willing to be suckered by jam today and no thought for the future then that's what they'll all do too. The fault of either system lies not in the stars but in us - the underlings. ®