Bubble Trouble

No one wanted to call it a crash. People talked correction, they mouthed pullback, they spoke of sharp decline, a nosedive even, but not a crash.

To which I say, what highway were they on? If you sat at my turret, stared at my computers, and heard the voices on my phones, you would know that crash might have been too sweet a word for the carnage wrought by the massive pileups of sellers packed onto that tiny nasdaq off-ramp. In the crash of 1987, we experienced a brief swoon, a rapid 508-point decline that worked its way back to even and beyond in a little more than a year’s time. In 1987, the nasdaq got hit, but it was nothing like the pulverization in April 2000. Nah – unlike the crash of ‘87, this one’s aftereffects will be with us for some time. This wreck will block the most important access ramp to all of the new companies that just came public – the ramp to getting more capital once the initial-public-offering money runs out.

Oh, sure, no sooner had the Intels and the Ciscos declined 20 or 25 percent than they began to work their way back from the pricey abyss to the extremely overvalued Valhalla. Some would say that, during the fall, the high-quality Nazzdogs, the ones with the fancy pedigrees and the good earnings, simply got hit with a wet bucket of ice-cold selling, or maybe just a dollop, or, in the case of Sun Micro and Oracle, a small splash of the stuff. These stocks bottomed two Fridays ago, in the teeth of the sell-off, when every mutual-fund manager was scared to death of redemptions and was busy whacking out the best names to have cash to meet them. As it turned out, of course, no mass redemptions came, and these same managers scrambled right back in once the mail brought more money in over the weekend. Leave it to the professionals to panic while the non-leveraged do-it-yourselfers plow 401(k) money in and pick off the pros’ cast-offs at great prices during Friday’s lows.

For much of the down market, we felt that the action was actually constructive. Sure, we didn’t feel all that constructive buying into the morass. All week we had avoided committing our excess capital, making us heroes in the eyes of our investors. Friday, however, was just so ugly, so hideous, that tension among us roared back to that Terrible Tuesday level, where I demanded that maidens be thrown into the volcano to please the gods of trading. There was Todd-o Harrison, our head trader, once again exhorting us to buy them when you can, not when you have to; but once again Jeff Berkowitz and I, stunned at the declines, began to worry about what Monday would bring.

So what’s it like living among the carnage of the 52-week-low list? At first, I found it quite lonely and depressing. Now, finally, we’ve been joined by everybody else.

Yet that type of long-term thinking can get you in huge trouble, because if everybody worries about a Black Monday on Friday – and is afraid to start buying again – you can bet that Friday will be blacker than Monday. (And it was.)

We had no choice but to buy. Though the costs of such foresight were still monumental: Between 3:30 and 4 on Friday, we probably plunked down $40 million in cash and saw it shrink to $34 million. That’s how fast the market was falling. We left the office feeling as stupid as wood.

Last Monday and Tuesday did bring peace and profits back to the market. There was a terrific snap-back rally in the big blue-chip tech stocks – so-called old tech, the Applied Materials, the Apples, the Alteras. These came back like beautifully shaped trees that had been pruned of excess branches. And even some of the more established newer tech companies – like PMC-Sierra, Novellus and KLA Tencor – showed some spring off of the bottom, saplings made tough by the challenge. But these big-percentage moves off shaky bottoms can’t mask the raw carnage that the stocks of the most recent-vintage companies just experienced.

You know which stocks I am talking about, the ones that didn’t exist until the final one twenty-fifth of the previous century. The ones that came public with those dazzling pops. The ones that had hitherto been impervious to missing earnings estimates, because they didn’t have any. And the ones that didn’t seem to blanch when interest rates went up, because they didn’t need to borrow. Most important, these new stocks weren’t subjected to the capitalist laws of gravity; they had at last broken away from the Earth’s pull.

Look at these declines from peak to trough: Ventro, from $243 to $21, down 91 percent; E.piphany, from $325 to $43, down 87 percent; webMethods, from $336 to $45, down 87 percent; Liberate, from $149 to $21, down 86 percent; Kana, from $176 to $26, and Digital Island, from $157 to $24, both down 85 percent. And you call that a correction? Do we have to wait for stocks to go below zero to merit the crash rubric? What else does a crash look like?

Sure, we were told, “don’t worry about it.” These soothing words came not from our parents but from the sages at the brokerage houses who have the most to lose if these stocks don’t come back. Their words had an undertaker’s calm. “It will bounce back,” they whispered. “And while you are waiting for their reincarnation to appear, would you consider taking down some shares of National Gift Wrap and Dot-com Corp., the latest business-to-business infrastructure play on the explosive seasonal-gift-wrap market?” These brokers “re-itted their buys” every day – Wall Street slang for reiterating that what was on their recommended lists was simply cheaper and better than ever.

The reassurances fell on ears made deaf by the crash of so many other dot-coms and infrastructure plays and B2B hotties that sounded so good just a few weeks ago. While the mighty tech stalwarts came back, the once-billion-dollar babies can’t grow back into their old market caps.

This time, though, there isn’t enough capital left to bring those stocks all the way back up, even though some had hefty bounces from the bottom. They are still so far off the highs as to make the vault back to where they once were seem unimaginable. And that could mean that the plans of many soon-to-be-public and some already-public companies to raise more equity capital will have to be shelved if not junked altogether.

After the 25 percent nasdaq decline, these New Economy stocks weren’t like their well-pruned and manicured cousins. They were stumps, chainsawed beyond recognition or hope of ever growing up straight and tall.

Why can’t these stocks grow back? Lots of reasons. Some of the potential buyers saw their assets go up in smoke as the brokerage houses moved hastily to reclaim the collateral pledged to buy more stock. Others just got tired of getting their heads handed to them once the timing restrictions on insider selling came off. In the end, it’s all about supply and demand – there’s just not enough money out there to absorb the wall of supply issued by the investment banks and their venture-capitalist allies. And who can blame insiders with 2- or 3- or 4-cent cost bases when stocks trade in the hundreds of dollars? Heck, these insiders do well selling at $2 a share, so what’s the difference between blowing stock out at $100 or at $10? No wonder the magnitude of the declines doesn’t faze these sellers. They are still thrilled to sell down here. This endless supply of shares for sale overwhelms customers’ demand as surely as a river overflows its banks after weeks of rainstorms.

Where did all of that capital go? What will come of the 500-odd companies that came public during this great era? What the heck happened? Was this just the great gold rush, and is it now over?

Well, yes. The great gold rushes, even the ones we celebrate and study in the history books, don’t last as long as this one did. They talk about 49’ers, but never about 50’ers, right?

The dot-com gold rush is over. It was just this moment, this crazy wild moment where the glee of the individual investor, the love of the Net, the newfound power of low commissions, and the democratization of Wall Street all coalesced into eighteen months of capitalism sans rigor. Looking back, I think it is amazing that it lasted as long as it did, because the unreal nature of it all, with its instant millionaires and billion-dollar market values, is astounding.

To think that all you had to do was put .com after your name and the public wanted it is, in retrospect, nothing short of amazing. Now, of course, it is the curse, the scarlet letter after the name of a company: a brand saying, Look out, this one came during the frenzy, so be careful; no matter how low you are, you’re still liable to lose your shirt if you come within a few stock symbols of this one.

And don’t I know it.

In the midst of one of the periodic giant nugget strikes of the past eighteen months – the Comstock Lode, so to speak – a company I co-founded in 1996, TheStreet.com, an online financial-news provider, came public. We were typical of the era. Our best day was our first day, the day when the market gave us a valuation similar to the Wall Street Journal and the New York Times. My, what was the market thinking?

I remember walking up Wall Street, on my way to get an Italian ice, and people were pointing at me. “Yeah, that’s the guy, the guy who struck it rich,” as if, somehow, I had actually sold any stock at those prices. (As the largest shareholder, I was totally locked up and unable to sell. In fact, I have never sold a share of TSCM and have actually bought some in the real market.)

The whole nouveau riche thing was actually quite mortifying. I had slogged away for years on Wall Street, first at Goldman Sachs and then at Cramer, working with my wife, and ultimately at Cramer Berkowitz, my hedge fund, and had made a reputation for myself as a stock picker with a passion for the business. I was nose-to-the-grindstone. I was a balding nerd who read annuals in bed and liked it!

Now I was suddenly on the cover of the New York Observer, in a cartoon drawing that put my face on the side of a hot-air balloon, even though I wrote for the rag. Downright insulting! Everywhere I looked, some journalist had multiplied the number of shares I owned by the stock price and deemed me to be worth a quarter of a billion dollars.

Mind you, I never believed it for a second. I was horrified at where our stock opened. We “priced,” or came public, at $19.25 a year ago last May, but the demand for the shares was many times in excess of the number of shares we were printing, so we opened in the sixties. All that morning I screamed at the traders on the other end of the line to get the stock open at a level that would make some sense, that would not embarrass us later on, that would somehow resemble our accomplishments and not our call on the future, as bright as that might have been. No such luck. Except for a momentary blip up to $71 on that first day, it’s been all downhill from there.

Last week, in one of the darker moments of the market’s charnel house, we struck five and change. So with something in excess of $4 a share in cash – we have $100 million in the bank, never spent, from the IPO – I guess you could say we might be worth more dead than alive, once you sort out the assets.

And we aren’t the only ones with bizarre ratios of cash to stock. Barnesandnoble.com, the jaded son of Barnes & Noble, and ilife.com are within pennies of being less valuable than their stock positions. You could bust these up and come up positive provided the furniture’s worth something. These companies’ execs better hope they don’t have hefty key-man insurance – those multi-million-dollar life-insurance policies on the top dogs – because disgruntled dot-com workers might get the itch to tip the balance.

Ahhh, but before you reach the conclusion that these companies are worth speculating on, remember that they have the suffix that kills attached to their names. Like many with that homicidal tail, TheStreet.com has to turn profitable one day to make it, because the crash you heard last week was all the doors slamming shut on any more financing. So now we choke on our own losses or somehow make it to the promised land of profitability before the cash runs out. For us, as well as for many of the dot-coms, it will be a footrace, and the winner can’t yet be predicted.

So what’s it like living among the carnage of the 52-week-low list? At first, I found it quite lonely and depressing. My wife always said I had the kind of personality that didn’t like being graded, and all of a sudden I had a flashing report card blinking at me every second on the job, and my work was receiving extremely low marks.

Now, finally, we’ve been joined by everybody else. In fact, there are many dot-coms that trade at equally embarrassing levels, some at even more embarrassing ones, and some come with terrible letters from the school principal, the outside auditors, informing shareholders that they may not even be going concerns at this pace. Ouch – it’s not enough to lose millions publicly, they then expel you from the darned club! Each day during the sell-off, dozens of dot-coms and their associates, the infrastructure and business-to-business plays, joined us on the new-low list. We love the company, by the way. Makes us feel less singled out for our woes, which were legion our first year as a public company.

The crash you heard last week was all the doors slamming shut on any more financing. Now we choke on our losses or somehow make it to the promised land of profitability before the cash runs out.

For me, ensconced in a day job where I see fortunes wiped out almost daily, the recognition that my dot-com millionaire status is just points away from going to six figures comes somewhat easily. But for those who tasted the joys of paper wealth and had it dangled in front of them without their being able to sell it, the crash is a true comeuppance. Only the very few, the really early gold miners, were able to offload their shares at high prices before the collapse. The vast majority of workers experienced the wealth vicariously.

Some – we don’t know how many – borrowed against their paper fortunes and actually bought real property. As the margin clerks silently recall these loans, I suspect that you might be able to do better than you thought when you look for an apartment but much worse than you thought when you go to sell your house. The dot-com inflation boom will soon be removed from the Fed’s agenda, and with it will come a return to more rational Hamptons pricing.

What happens now? Oddly, the closing of the window is great news for those who got their starts as dot-coms and now have profitable businesses. These companies will be able to cherry-pick among the rest of us, looking to fill in niches with brands built by others. Companies like Yahoo! and America Online managed to turn profitable while everyone else was consuming cash, so they will be able to extend their lead, knowing that no competitors are about to get public funding again. They can pull so far ahead of the pack that their market caps may actually make sense. (I own them both.) Their stock-for-stock lifelines will be well received by any of the sinking dot-coms now clinging to flotsam in the capitalist ocean.

And how about all of those companies that provide the picks and axes and jeans to the dot-com miners, the Kanas and the E.piphany’s and the Art Technology Groups – the companies that host sites and help lure more Web customers and keep them happy? Are their jobs safe and their stocks worth owning? Yes, their jobs may be safe, but no, their stocks aren’t worth owning, because they needed the gold rush to last even longer than it did. They needed to see hundreds more dot-coms get funded if they are going to live up to the market caps forged during the heyday of infinite growth. I wouldn’t touch any of them.

Is there a lesson in all of this? Nothing that The Treasure of the Sierra Madre didn’t teach us already. When the end came, all that mattered to me was that I didn’t want to be Bogart. I wanted to play again, to laugh like Walter Huston at the vaporized riches swirling in the wind, proud to know that I gave it my best shot while it lasted.

James J. Cramer is manager of a hedge fund and co-founder of TheStreet.com. At time of publication, his fund had positions in Intel, Cisco, Sun Microsystems, Oracle, Yahoo!, AOL, Applied Materials, and TheStreet.com (of which he is also the largest shareholder). His fund often buys and sells securities that are the subject of his articles, both before and after the articles are published, and the positions that his fund takes may change at any time. Under no circumstances does the information in this article represent a recommendation to buy or sell stocks or a solicitation for transactions. While he cannot provide investment advice or recommendations, he invites comments at jjcletters@thestreet.com.

Bubble Trouble