I occasionally like to short[1] stocks for fun and profit. One of my recent shorts is Tesla[2], the maker of electric vehicles (“EV”) and energy storage systems. This one gives me particular pleasure because it is a great opportunity to take some money off the politically correct (“PC”) crowd precisely because of their cognitive deficiencies. Let me explain.
I have nothing against the Tesla car. Although I have never owned or even driven one, by nearly all accounts it is a pretty good machine (although clearly with some build-quality issues and probably some long-term reliability ones, too). Tesla has almost single-handedly revived electric automobiles[3] and brought some useful practices to the automotive field from the technology sector, such as over-the-air software updates.
The Tesla car is also the darling of the chattering classes, particularly the West Coast variety. Sleek, fast, expensive and electric, nothing announces “I have arrived…but I am still the same laid-back, eco-friendly[4] and PC guy I used to be” like a Tesla. This has made it a celebrity favourite, as demonstrated by, for example, this six-minute free commercial on The Late Show with Stephen Colbert which raves about Tesla’s recently downloaded auto-driving features. These features are common or garden variety for cars in this price category but we can’t apply normal standards to a Tesla. We are talking about a revolution here. Well, you know, we all wanna change the world.
Shares in Tesla benefit from the same cult following. I can’t prove this mathematically, but you only have to spend a little time in the Tesla section in something like SeekingAlpha, a popular investment website, to realize that the proponents of Tesla are on a PC mission. And like with their politics, these evangelists will not allow logic to distract them.
I have been a businessman for over 25 years. At every point in my career, including when I was working at the all-conquering Goldman Sachs, I have felt the hot breath of competitors on my neck. This is a reality of the “free-ish” markets in which most businesses operate that the PC crowd, most of whom have no direct experience of business, doesn’t understand or acknowledge. And this is the major reason why they are going to take a bath on their Tesla investments.
The free market never leaves bags of money lying around and waiting to be picked up. In fact, if you ever find this, it is almost certainly the result of government intervention. Remember the £1 billion that George Soros made betting against the British Pound in 1992? That was a direct transfer from the UK Treasury to Soros. Absent any barriers to entry, these types of extraordinary profit opportunities rapidly draw so much investment that the “arbitrage” disappears. Likewise Tesla’s $30 billion stock valuation.
The incumbent automobile manufacturers are now entering the EV market in force. VW/Audi. Mercedes Benz. BMW. Nissan. Honda. KIA. Porsche. Like turkeys welcoming Thanksgiving, the Tesla supporters applaud this, saying that it is an “endorsement” of the Tesla approach that can only help the company. One proponent recently entitled an article “The Auto Industry Just Admitted That Tesla is Right.” I am sure that this will be a great comfort when these competitors start eating into the growth and profitability that is the only rational basis for Tesla’s extraordinary stock valuation.
The massive entry of the incumbents proves two things. The first is that there are no barriers to entry – no “economic moat,” to use the popular phrase – that will give Tesla the competition-lite growth and profitability needed to justify its stock price. And the second is that the free run that Tesla has enjoyed so far is purely because the incumbents have been happy for Tesla to pioneer this market, knowing that the pioneers are often the ones with the arrows in their backs. Now that Tesla has been proven to be “right,” they can use their myriad scale and other advantages to eat Tesla’s lunch.
The PC crowd will never get this. Implicitly or explicitly, they assume that all businessmen are short-sighted, greedy dolts sitting around and waiting to be disrupted by some Silicon Valley type who says “cool” a lot, never wears a tie and supports liberal causes. They don’t realize that, for example, the automobile industry is one of the most internationalized, dynamic and competitive industries in the world. And it is also one of the most high tech, both in its products and the way it makes them.
Little known fact: automotive giants Volkswagen and Toyota are in the top-10 companies in the world in terms of R&D expenditures, with VW leading the pack at $13.5 billion per year. Much of this is spent exploring alternative drive train technologies, such as EV, cleaner and more efficient internal combustion engines (“ICE”), hybrids, fuel cells, etc. If the PC crowd backing Tesla thinks that the incumbents are sitting around waiting to be disrupted, then they should think again.
Of course, all of this has been pointed out to the Tesla proponents. But this is where their second cognitive failure comes in. Like with their politics, they are unable to imagine anyone could disagree with their messianic vision except due to evil or base motives. So, wade into the comments section of SeekingAlpha and dare to question the investment logic of Tesla. You will be met with a torrent of ad hominem abuse and attacks on your motives, intelligence and maternal parenting. But the one thing that you will not be met with is a reasoned retort. You are so obviously unenlightened that this is not deserved.
At the current stock price, I am slightly in the money on my Tesla short. But I am maintaining the position until I make enough from shorting Tesla stock to buy a Tesla car. Or, more likely, to buy one of the better, cheaper and more reliable EVs that Tesla’s incumbent competitors will shortly be producing.
More Reflections on the Democratic Debate
When asked about her volte-face on the Trans-Pacific Partnership, the deal to liberalize trade between the US and various Asian countries, Hillary Clinton said that “I did say, when I was Secretary of State, three years ago, that I hoped it would be the gold standard.” In fact, her earlier statement was unequivocal. In 2012, she said: “This TPP sets the gold standard in trade agreements to open free, transparent, fair trade, the kind of environment that has the rule of law and a level playing field.” So, this is how Clinton plans to “spin” this issue. Let’s hope that future questioners or debaters will not let her get away with this.
Clinton, when asked whether she was in favor of legalizing the recreational use of marijuana, said that we should wait and study the results of the legalizations in Colorado and Oregon. But she also said that is a tragedy how many people are in prison for a minor offense like smoking marijuana. She didn’t say how she planned to square this circle.
The largest applause of the night, at least on the Roger Barris Applause-O-Meter, occurred when Clinton pointed out the contradiction between Republicans decrying big government but then wanting to interfere with a “woman’s right to choose.” She should thank the religious right in the Republican Party for handing her this layup.
Martin O’Malley, in his summary at the end, commented that, unlike in the Republican debate, there had been no denigration of women, no racist comments about immigrants and no comments about a person’s religion. Thanks to Donald Trump and Ben Carson for handing the Democrats these layups.
When asked about the one thing that would distinguish her administration from Obama’s, and then when asked about her being a Washington insider when the electorate is favouring outsiders, Clinton’s answer was, in both cases, “look at my genitalia.” Imagine if candidate Obama had said “look at the color of my skin” in the debates preceding the 2008 election. But both comments drew huge cheers from her Pantsuit Brigade, which is always pleased by a bit of pandering.
At one point, Clinton was asked whether Libya and Syria proved that she was prone to using military force too quickly. This is the real issue of Libya, as I have pointed out earlier and as Rand Paul points out in this video (at about minute 4:20). Unfortunately, the Republicans cannot attack her on this until they eliminate their own neo-con bellicosity. So we are left with the sideshow on Benghazi.
Finally, during the entire debate, I once again marvelled at the ease of being a Democrat. How simple it is to respond to every question or every identified problem with a five-point plan for this, or a government program for that. How easy this makes it to appear proactive, benevolent and clever in 15-second sound bites. How the unintended consequences of these actions or their costs are always much more time-consuming, complicated and curmudgeonly to explain. How you can claim, as Clinton did, that she is trying to “save capitalism from itself,” without ever being held accountable for the thousands of ways that she and her fellow Democrats have perverted “capitalism.” With this bias, it is amazing that we don’t have even more interventionist policies than we do.
Paul Ryan: Speaker of the House
It appears that the Republicans are coalescing around Paul Ryan to be the next Speaker of the House. There are worse choices, but there is no doubt that Ryan’s reputation for being a thoughtful and aggressive fiscal conservative is largely undeserved.
David Stockman did a great piece on this back in April 2014, after the publication of Ryan’s latest budget proposals, entitled “10,000 Monkeys Tapping An HP Calculator: Even Palin Figured Out Congressman Paul Ryan Is A Fiscal Fake.” Stockman takes Ryan to task for pretending that America’s fiscal problems can be solved without tackling entitlements and America’s overextended military commitments. Here are some of the key paragraphs:
“In short, the Ryan Budget is a complete, blatant and undiluted expression of beltway mendacity. Its central lie is that we can beat-up 10 or 20 million poor people and our entire fiscal calamity will go away. In truth, the problem reaches the entire population of 315 million Americans, and it cannot be alleviated without unprecedented sharing of burdens and pain – by virtually all spending beneficiaries and every taxpayer alike….
In all, Ryan’s budget gives a pass to $25 trillion of combined Warfare State and Welfare State/social insurance spending during the 10-year horizon. That’s half the budget – and the heart of where massive opportunities exist to actually do something about “Big Government.”
And here’s the thing. Ryan’s math is self-evidently phony, but his dis-service to the conservative cause is even more offensive. There is a valid and populist alternative that says take on the military-industrial complex; renounce an interventionist foreign policy which is obsolete and destructive; and demand that affluent retirees bear their fair share of sacrifice through a means-test on social security and Medicare.”
As always with American politics, we are forced to choose the lesser of evils. But on the current evidence, no one should expect Ryan to be more than that.
Deflating Switzerland Does Pretty Well
One of the leading memes of conventional economic thought is that deflation is a horror to be avoided at all costs. If so, then proponents of this view have a hard time explaining Switzerland.
The Wall Street Journal has recently published an article entitled “Deflation Can Coexist With Solid Economy” which describes Switzerland’s recent economic performance. Consumer prices in Switzerland have fallen for most of the last four years, recently hitting minus 1.4% per annum. This fall is largely driven by the strength of the Swiss franc, the value of which has been pushed upward by “safe haven” flows into Switzerland. As you may remember, the Swiss National Bank, after years of trying to fight this tide, gave up in January 2015, leading to a sharp rise in the currency.
Despite this persistent deflation, Switzerland suffers none of the ills conventionally thought to accompany deflation. Unemployment is 3.4%. The economy is growing in the range of 1% to 1.5%, which isn’t bad in a European context. Nominal wage growth is 0.6%, which translates into solid real income gains after a negative inflation rate. Short-term interest rates are negative, largely to dissuade further capital inflows, but still positive after inflation; savers in America wish they had it this good. And the strong franc hasn’t crushed exports: Switzerland still generates a trade surplus of 5% of GDP.
In particular, although consumption growth has slowed, it has not exhibited the collapse that the deflation-phobes would have the world believe awaits anyone who falls into a “deflationary spiral.” Not surprisingly, small rates of deflation do not materially affect people’s consumption patterns, causing them to delay purchases and exacerbate the deflation, any more than small rates of inflation cause everyone to rush out and buy everything today, bringing on hyper-inflation.
All of this leads one to wonder whether the price that we are paying for the fight against the deflationary bogeyman – the asset bubbles, wasted investments, growing inequality and devastated savers – isn’t too high. The deflation-phobes always point to Japan as proof of the ravages of falling prices. (Although they rarely explain why twenty-plus years of expansionary fiscal and monetary policies in Japan have failed to correct these problems, except of course Paul Krugman can always claim that they have failed due to “timidity.”) Maybe they should be required to explain why Switzerland isn’t doing too badly.
Roger Barris, Weybridge, United Kingdom
I Wish That I Had Said That…
“New Zealanders who emigrate to Australia raise the average IQs of both countries,” by Robert Muldoon, former Prime Minister of New Zealand, repeated in honor of the forthcoming finals match between New Zealand and Australia in World Cup Rugby
[1] “Shorting” a stock is a way of betting that its price will fall. To be precise, you short a stock by borrowing it from someone, promising to return it at a later date with interest; in this respect, it is just like any loan, except in this case the “principal” is the number of shares that you have borrowed and which you have to return. After you borrow the shares, you sell them at the current market price for cash. When it comes time to return the shares, you have to buy them back. You profit if the price of the stock has fallen in the interim and you can buy back the shares for less than you received when you sold them.
Short sellers are often derided as a type of financial parasite living off the misery of others. In fact, they should be strongly encouraged. Imagine, for example, what would have happened if investors had more vigorously shorted sub-prime mortgages in the lead up to the financial crisis. With much more shorting, the price of these loans would have fallen and it would have become unprofitable to create them. A huge amount of bad investment and financial chaos could have been avoided.
[2] As always, this is not any kind of financial advice.
[3] I say “revived” because, in fact, EV is a very old technology. Before being eclipsed by internal combustion engines (“ICE”) in the early 19th century, EV and ICE were neck and neck.
[4] Of course, we must never ask where the electricity comes from. Or the environmental impact of making the batteries.
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I enjoyed the post about Tesla and agree with your comment about competition coming directly towards them. A couple things to consider re your short position:
1) I don’t see any mentions of energy storage. This is going to be a huge business for them. They are the largest player in ‘stationary’ storage in CA and this market is poised to become huge.
2) The R&D point is valid, although I would note that Xerox, Kodak and IBM spent tons on R&D in the 1980’s and 1990’s and had little to show for it. If VW is investing heavily in diesel cheating software, as GM and Ford invested in cars people didn’t want in the 1970’s and 1980’s, it isn’t worth much.
Is that you, Hirschie? Now I know that you have spent too long in California.
I think that energy storage is a complete red herring — but I am willing to be educated since I know that this is your field. I would just say the following:
1. In order to run any type of home for a reasonable period of time, you have to buy a lot of the Tesla panels, since home electricity consumption is very, very high. This gets very expensive, very quickly. This means that “load management” only becomes economical when there are very, very large differences between peak and non-peak rates from the utilities.
2. The Tesla batteries are optimized for automobile use, to make them light, compact and powerful (but relatively expensive). Since these characteristics are largely irrelevant in home storage, I think that Tesla has some significant competitive disadvantages in this field.
3. As the above comment makes clear, there is the general point that Tesla has significant competitors in this fields (Bosch, etc.). Like with the cars, this competition will make it hard for Tesla to generate the margins and growth necessary to justify its current stock price.
4. Tesla announced 30,000 reservations for its Power Walls. But to make these reservations required no money and could be done over the internet in about 15 seconds. Musk trumpeted these reservations in a Tweet but I think that this is another example of his selective disclosure and stock pumping. I think that they are largely meaningless.
5. Many states, including California (I think), have “net metering” which means that you can sell back excessive power generated by solar panels to the utility at very attractive prices. For people with solar panels in one of these states, this is by far the most efficient way to store excess production.
6. Finally, as you know, many of the things that appear economic today depend on costless access to the grid as a backstop. This is already a huge problem, for example, in Germany which has gone furthest in promoting alternative energy. This is a form of regulatory arbitrage that cannot go on forever since it will bankrupt the utilities (or cause them to shift costs to the remaining customers) and is manifestly unfair. Things will change in the future (such as very high access charges) that will undercut some of the demand for things like the Power Wall.
In short, I think that this is a much smaller market than some people think and that, in any case, Tesla is not very well positioned in it. But I would be curious if you disagree.
The R&D point is totally valid, but as I point out to many Tesla-ites, having grown up among the lumbering incompetents in Detroit (who for years were protected from competition by government policy and a successful brainwashing of the public to “buy American”), the modern automobile industry is far from GM and Ford in the 1970s. You know this from your own experience. The Germans (and the Japanese, and the Koreans, etc.) make great products. They are not wasting their R&D, or at least not enough of it for Tesla to take comfort. (For example, the total that Tesla has spent on its SuperChargers is but a small fraction of the annual R&D budget of Volkswagen. I expect shortly that VW, probably in a consortium with other car manufacturers, will be announcing a competing network to the SuperChargers.)
And I don’t think that they spent much money on the cheating software. But, in general (and contrary to the beliefs of the Tesla supporters), the diesel scandal is bad news for Tesla. Now, the rest of the industry will have to redouble their efforts in EV, which is not good news for Tesla. They have already announced this.
(As an aside, the prevalence of diesel in Europe is another case of bad government policy. Read, for example, this article in The Economist, which describes how government policy deliberately favored diesel in Europe: http://www.economist.com/news/leaders/21666226-volkswagens-falsification-pollution-tests-opens-door-very-different-car.)
Thanks for the comments and I would be very interested to hear if you have a different take on the storage arguments. I mean interested with a capital “$.”
Roger
Thanks for the thorough reply.
You caught me as I have gone full California.
In response to the points on storage.
1) The average power consumption for a house is 30 kWh per day (EIA) and the powerwall provides 7 kWh, so it can impact a meaningful amount of the load. The battery can create dollar value four different ways.
a) Demand Charge Reduction – People are charged based on their peak demand. Shaving that can create a lot of value.
b) Load shifting – The difference between summer peak and summer low-demand prices are 2 to 1, so there is profit to be made.
c) Frequency regulation/demand response/grid support – This is a nascent market. On the East Coast, they are making progress pricing it.
d) Emergency back-up
We are still figuring out the best way to monetize these, but they are going to be a massive market (see final thoughts).
2) Part of that is true and part isn’t. Energy density is important for home systems. Most people don’t want to give up a lot of space or have an unnecessarily expensive installation. In addition, the battery packs are one of the most significant costs for the car, so they are very focused on reducing cost. Also, people don’t want lead-acid batteries in their houses, if they can avoid them.
3) I agree that there will be competition. Tesla is building a lead on the software side of the equation, which will put them in a good place relative to the competition. They have more operating experience, which helps too.
4) I agree that the pre-order numbers don’t mean much. They are a big brand and have inspired the developing world. I met partners across sub-Saharan Africa, who couldn’t stop talking about Tesla and the powerwall. They will get a premium for this.
5) Net metering – You are spot-on for current solar customers. The surplus solar offset against the utility bill like a tax credit, reducing the most expensive power. The problem is that many utilities do not like ‘net metering’ and there are already places where the legislation is moving away from those schemes.
6) Yes, we need to figure out the role, cost and payer for the grid. Those are tough questions to answer. I think in any future world of energy there will be a huge role for storage to support and enhance the grid.
In terms of the market size (residential, commercial and utility), we are talking about over a gigawatt by 2020 (~$3 bn of COGS) in California and the expectation is for rapid growth from there as grid/public utility commission rules enhance storage values, costs come down and we get better at financing them.
Also, Tesla benefits from the relationship with SolarCity. They have integrated access to hundreds of thousands of homes, which puts them in a better place than other battery producers.
I agree that Tesla might not be the right company to own the market, but I don’t see any other players establishing themselves in the near-term.
Hey Hirschie:
Thanks for the response. You are definitely the expert here, but I just have a few comments (following the same numbering):
1. I suspect that the demographic for these babies is a lot higher end than the average, with a lot more consumption than average. So, 7 kWh will only go so far. It certainly won’t allow people to go “off the grid,” which is what a lot of the initial buzz was about. Regarding sub-points (a), (b) and (c), yes, these can make it economic. It is a question of the numbers, for which I don’t have a great feel. I have seen some number that produce the type of returns and pay backs that I don’t think will look too attractive to the average punter, but I really don’t know.
2. For sure, energy density matters for home too, assuming you don’t have an unused barn in the backyard, but it isn’t the absolute priority that it is for cars. So, not irrelevant, but the lithium-ion battery packs and “Gigafactory” are even less the trump card for home use than they are for automotive use.
3. Like with the situation for cars, competition is the key point. I just don’t see why they would be better at this than, for example, Panasonic or LG. Or companies that provide systems for the power grid like Siemens, GE, and a bunch of other people I don’t know. More operating experience? Maybe with electric cars, but not the rest — I don’t think.
4. Sure, everyone wants to be the next Elon Musk, so there is a lot of buzz. And people might pay for some of this. But let’s be clear: This is not like an Apple product where they can command a huge price premium because switching costs are high (especially compared to the cost of the product) and the Apple provides a much better user experience.
5. I agree that net metering is a massive ripoff that cannot continue, at least not in its current form where home producers get paid retail prices. But payment of wholesale prices can probably last a long time and it will still greatly reduce the incentive to buy storage.
6. I agree. All of this stuff is moving and home storage might be part of the puzzle, but for example, if people use PowerWalls to shave peak demand costs, then in the short-term this either (a) bankrupts the utilities or (b) shifts costs to someone else. This is not sustainable either.
I have seen some overall market figures that are large, but I have also seen these disputed by people who appear to know a lot more than I do. I think that there are a lot of moving pieces here — regulation, cost of batteries, cost of alternative energy, cost of conventional energy, etc. — and it is very difficult to predict how this is going to shake out. It may be a big market but then, as I always say about the cars, the victory of electric vehicles over internal combustion engines is NOT the same as the victory of Tesla. The problem is that Tesla’s stock price assumes that (a) the market is big, (b) Tesla takes a big chunk of it, and (c) Tesla commands very generous margins. And that means that a lot more things can go wrong than have to go right to justify the current stock price.
PS. SolarCity has specifically said they are not going to sell PowerWalls. At least not for now.
Three more things.
1) There are network advantages for storage. It increases the ability to finance the product, because there is more operating data. This is important to attract lower rates. Additionally, the more units you have out, it enables you to bid into different value streams (virtual peaking plants, etc), so you can have lower costs.
2) Solarcity may not sell the powerpack, but they are likely to include it with the solar system for energy sales.
3) Here are two articles about storage.
It is worth noting that Greentech Media is the cheerleader/news source for the industry, so take the articles with a grain of salt.
http://www.greentechmedia.com/articles/read/tesla-buoyed-by-third-quarter-results-that-beat-reduced-expectations?utm_source=Daily&utm_medium=Newsletter&utm_campaign=GTMDaily
http://www.greentechmedia.com/articles/read/Grid-Defection-Would-Be-a-Bad-Idea-for-the-Average-American?utm_source=Daily&utm_medium=Newsletter&utm_campaign=GTMDaily
Thanks, David. As always, food for thought.
Roger
Hope you still have this short on – kerching!
http://www.zerohedge.com/news/2015-11-20/tesla-tumbles-after-recalling-90000-best-car-ever-model-s-sedans
Got any more short ideas?
Still on, but I think that the big payoff remains to come.
No other ideas. Too busy shaking my head about the world.