To justify Tesla’s valuation, the share prices of other car companies should be falling at the same time, but they aren’t
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It is just about possible to make sense of Tesla’s extraordinary valuation.
Ignore Elon Musk’s fanboys, who cheer on the electric-car company at any price. Make some rosy assumptions about Tesla Inc. TSLA -0.17% capturing a large part of the world’s vehicle sales, making more profit from each sale than existing car makers and adding in a nice business supplying battery-backed solar installations. Dismiss all the challenges, and a share price of 211 times the paltry estimates for this year’s earnings could be justified, at a pinch.
But the stock market still has a problem.
If Tesla is a success, the rest of the industry won’t be. When someone buys a Tesla, they choose not to buy a Ford or a BMW. And shareholders are ignoring this most basic logic, pricing in success both for Tesla and for the rest of the industry.
The total market value of all other major U.S., European, Japanese and Korean car makers has risen in the past year, even as Tesla’s value rose eightfold to match them. Shares in Chinese and Indian car makers, perhaps less threatened by Tesla, have also risen, while Chinese electric-car makers have soared alongside Tesla.
It isn’t that Tesla is expected to take big market share off the traditional electric utilities, either. Their stocks have also been fine, if less exciting than car makers. The utilities that have shifted fastest to solar and wind are attracting premium valuations, but overall electric-utility shares were unchanged last year, after a big fall amid vaccine optimism toward the end. (As an aside, they still generated a fifth of their power from coal, so on average a U.S. Tesla charged from the grid is 20% coal-powered.)
How can this happen? My guess is that it’s the result of two separate types of shareholders with little in common, combined with a lack of arbitrage.
The first category of Tesla supporters is split into two groups: individuals and growth investors.
Private investors armed with stimulus checks from the government have piled into the stock market in the past year. Many buy what’s going up, while old-fashioned discounted cash-flow analysis isn’t a big part of the discussion in investor chat rooms. Tesla is an appealing brand, and Mr. Musk has made more effort than other CEOs to reach out to individual investors, taking their questions before Wall Street analysts in quarterly calls and replying on Twitter.
Other stocks with a good growth story to tell have also soared, with anything connected to zero-emission cars leaping in value. But in a reminder of the dangers here, some have also come a long way back down again, as with would-be hydrogen-truck maker Nikola Corp. and battery developer QuantumScape Corp. QuantumScape jumped 1,000% in less than two months, before falling more than half in 10 days.
There are plenty of other places to speculate, and penny shares and bitcoin have also had a flood of new money. But Tesla stands out for its sheer size.
Growth investors also like to buy stories. Tesla has a great story, as electric cars and solar power are being pushed by governments the world over as big parts of the solution to climate change. For this group, the addressable market and potential is more important to the analysis than details of quarterly cash flow.
So long as Tesla doesn’t go bust, as it almost did, these investors are happy to keep their eyes firmly fixed on the distant future. The addressable market is the entire car industry; if Mr. Musk can make self-driving cars, the addressable market would expand to include the taxi industry too, perhaps all personal transport. Add in solar arrays and home solar, and there is plenty of space for growth.
Last year the biggest holder of Tesla, British growth investor Baillie Gifford, sold some of its shares, but only because Tesla had become too large a part of its portfolio. There is probably a valuation where growth investors start to worry that the addressable market isn’t big enough, but we’re not there yet.
The other category of investors includes nuts-and-bolts fund managers and others who pay close attention to the numbers. Estimate car sales for the next few years, look at predictions for the speed of shifts to electric in a decade, check the appeal of new models, and come up with estimates for sales, margins and earnings per share.
These investors are unlikely to find a way to buy Tesla at a valuation of $1.6 million for each of last year’s sales, even if they think the company itself has a decent future. But in the time frame they are looking at, the rest of the industry will be fine, too. Sure, the companies are challenged by the shift to electric, and some will manage better than others. But they still have many years of internal-combustion-engine sales ahead of them, with plenty of money to be earned between now and the end of fossil fuels.
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Between these two views, there is usually an opportunity for arbitrage, going short one company and long a competitor and helping to bring stock prices back into line with fundamentals. But betting against the Tesla share price has been a quick way to become a former hedge-fund manager in the past year, and most of the short positions have been closed. That helped the stock rise, rather than fall, exacerbating the gap with the rest of the industry.
My view is that Tesla is in a wild bubble along with the rest of the electric-car industry. If I’m wrong, the stocks of other car makers and at least some of the utilities have a long way to fall.