Up and to the Right: A historical perspective on current technological and government dynamics in markets
Clients of the Firm,
During the Rockport Music Chamber Music Festival this month, I had the opportunity to see the Larry Weinstein movie Beethoven’s Nine: Ode to Humanity and a corresponding director’s talk about the 9th Symphony and its arc through the history of the 20th and 21st centuries. Paraphrasing Jeremy Eichler, a noted classical music author and panelist at the event, “the piece bears the scars of history as it travels through time.”
Jeremy’s comments made me think of how technological and governmental influence have a similar impact on investments. Indeed, theses times exemplify the combination of economic, political and technological change that have shaped the American experiment over the past century. Similar to Beethoven’s 9th Symphony, while the players are different, the score remains the same and today’s story arc bears the hallmarks of other periods of dynamic change.
Technology and government interventions have paved the way for great expansionary periods. An example is the westward expansion of the transportation system of the United States. This expansion was initially personified first by covered wagons and then acutely and at great financial risk, the rail expansion. This transformative technology allowed travel of goods across the country in 7 days from what previously took months. The first transcontinental railroad reduced travel time across the United States from months to about a week. Specifically, it took roughly 7 days to travel from New York to San Francisco. Later, with the development of the Transcontinental Express, the journey could be completed in just 83 hours.
The government created many incentives to help facilitate the railroad construction. These were mostly embodied in the Pacific Railway Act of 1862. The measures included granting to the railroad companies large tracts of land for the right of way along the path of the tracks. Initially, these were 10 square miles along the path, but they were subsequently increased to 20 square miles to attract investors into the project. The railroad companies were then allowed to sell these land grants to settlers to raise funds for the construction. In addition, government bonds were issued to finance the construction bearing a 6% interest rate and 30-year term. After much turmoil and a Civil War, the railroad was completed on May 10, 1869.
The railroads then enabled the next period of expansion commonly referred to as the Second Industrial Revolution. The interconnected rail system moved production capabilities from disconnected local producers to factories and the workforce along with it. In turn, centralization of the workforce with a hub and spoke transportation system led to the rapid urbanization of cities in the United States. This urbanization led to rapid building and immense progress in the technology of bridges and vertical (skyscraper) construction. Cities like Chicago and New York had periods of rapid population and industrial growth and along with them the challenges of housing, education, food insecurity and immigration management.
Around this time in the early 20th century, financial markets began to become more accessible to the common person resulting in unregulated speculation and fortunes being made and lost. Indeed, F. Scott Fitzgerald described the 1920’s as “an age of miracles, an age of art, an age of excess and an age of satire”. This period of excess and speculation ramped significantly in the period following World War I culminating in the Great Depression beginning in 1929.
Much was accomplished through the New Deal legislation under President Franklin D. Roosevelt that followed the onset of the Great Depression to try to establish a more stable framework for growth while supporting a country in economic crisis. This involved creating government departments of almost every variety to both regulate as well as employ the country and its industries. The SEC, for example, was created during this time as were personal income taxes. Eventually, the outbreak of World War II jolted the country out of the depression and the benefits of the industrial revolution were realized in full through the allied victory.
The war created a massive multi-decade reconstruction project under the Marshall plan for Europe and sustained for decades the military industrial complex intended to keep the peace and contain the rising expansion of the Soviet Union. This led to a prolonged period of growing corporate profits for U.S. companies that benefited from the same. The Nifty 50 stocks of that time were frequently described as the S&P 500 is today. This period persisted through the 1950’s and 1960’s until the leverage used to fund the Vietnam War and other increased spending led to Nixon taking the U.S. off the gold standard in 1971. This combined with domestic turmoil from the Vietnam War and other government actions resulted in a period of stagflation through the 1970’s and hyper inflation in the later part of the decade and early 1980’s. Computer technology also greatly advanced over this time period, setting the stage for another episode of political and technological change.
Around this period, the introduction of the personal computer and advances in microchip design led to the next technological revolution: mass computerization. Companies like Apple and Microsoft revolutionized the workplace with desktop computers that were as powerful or even more so as time went on as computers that previously filled entire rooms in corporations. Word processing, email and spreadsheets completely changed the efficiency and accuracy with which office work was conducted. In addition, programming automation greatly enhanced engineering and other complex computations in a way that accelerated product innovation, financial market speed, trading volumes and a host of other previously manual industrial applications. The rapid growth and adoption of this technology led to a massive increase in the direct providers of the technology and a proliferation of software companies designing applications which took advantage of it. Technology over the 80’s and early 90’s evolved from the standalone P.C. to a client server-based environment which allowed technology deployment and file and database sharing across large enterprises, further accelerating collaboration.
In the early 1990’s client server technology was adapted to work over wide area networks and this rapidly came to include the internet which completely transformed supply chains and enabled electronic commerce, external email and real-time monitoring systems. This reaccelerated the growth in technology companies providing the base service to power the internet, operating systems and hardware and ushered in a wave of internet-based services applications that were previously impossible from a technology perspective. The economy grew around these proposed new business models before many of them collapsed under the limitations of their ideas and/or funding sources. This reality drove a historic decline in the Nasdaq where many of these companies were listed. This decline and the general economic damage from it accelerated in 2001.
The economy continued to struggle until government stimulus was introduced in the form of stimulus and a very significant reduction of interest rates by the Federal Reserve to from 6.50% to 1.75% over the course of 2001. While the stimulus was successful in reigniting growth in the U.S., it eventually created a speculative bubble in residential real estate. The loosening of credit standards coupled with the proliferation of mortgage-backed derivative products greatly contributed to the Great Financial Crisis (GFC). The crisis resulted in a prolonged recession beginning in 2008, resulting in continued rate suppression by the Federal Reserve and a government bailout of major financial institutions.
Ironically, directly preceding the GFC, the iPhone was introduced in 2007 opening the internet and the concept of applications to the mobility market. Over the next ten years, this technology coupled with widely available broadband fundamentally changed industries and workflows across transportation and hospitality, marketing, interpersonal communication and traditional office work. Mobility continued to transform the workplace creating messaging and location diversity among employees. Remote work became a larger portion of the workforce which significantly accelerated in the COVID-19 pandemic.
With this historical perspective, we can see a similar story arc emerging with the recent technology developments in AI. At the same time, the recent “One Big Beautiful Bill” legislation has maintained personal and corporate income tax rates while introducing significant cuts to Medicaid and other government programs. The legislation also introduces substantial tax incentives to pull forward capital spending which many of the large technology providers are embarking upon to fund AI acceleration.
Similar to some of the other periods previously referenced, AI will likely drive the next great wave of technological innovation. The technology has the potential to greatly reduce costs in large enterprises and transform knowledge work, programming, autonomous transportation and potentially self-thinking agents with meta cognition.
Like many of the other sea change technological and political evolutions, this period too will present both opportunities and threats. For example, significant energy will be required to power AI and the corresponding explosion of applications that will emerge in its wake. The generation, transportation and storage of these resources will have benefits and risks.
In addition, major financing will be required to build and exploit the technology and some business models will erode or become extinct along the way. Government assistance in the form of innovation and tax-friendly policies will likely be needed to try to ensure a successful transition. Appropriate regulation will also be needed to provide a framework for systemic financial safety of this hyper growth technology. Currently, government assistance is being funded through deficits thus increasing the national debt and potentially pressuring long term interest rates.
New company winners will emerge and leading technology players who are already investing heavily in AI will likely benefit from first mover advantage and their sheer scale and reach. At the same time, those companies unwilling or unable to adapt will be replaced in the innovation cycle to come.
The United States of America economy has navigated many political and technology cycles and has emerged larger and more robust as a result. The standard of living has increased for most citizens and the safety net for the most vulnerable has greatly improved over the course of the last 150 years. While progress isn’t perfect or in a straight line its forward shadow is visible from the lessons of our past. In our view, the silhouette of its forward momentum should not be mistaken for a dark funeral shawl.
Informed by history, we forge ahead as investors looking for the opportunities in the world of change we encounter today. While we are confident it won’t look like the wagon trains of the 1860’s, the bread lines of the depression, the gas lines of the 1970’s or the iPhones of the last 15 years, the future will look like progress or as traders like to put it, “up and to the right”.
Sincerely,
Peter Wernau
CEO
Wernau Asset Management
Important Legal Disclosure
This letter contains general information that is not suitable for everyone. The information contained herein should not be construed as personalized investment advice. Past performance is no guarantee of future results. There is no guarantee that the views and opinions expressed in this newsletter will come to pass. Investing in the stock market involves gains and losses and may not be suitable for all investors. Information presented herein is subject to change without notice and should not be considered as a solicitation to buy or sell any security. Wernau Asset Management, Inc. ("Wernau Asset Management) is a registered investment adviser with its principal place of business in the Commonwealth of Massachusetts. Wernau Asset Management and its representatives are in compliance with the current registration requirements imposed upon registered investment advisers by those states in which Wernau Asset Management maintains clients. Wernau Asset Management may only transact business in those states in which it is registered or qualifies for an exemption or exclusion from registration requirements. This letter is limited to the dissemination of general information pertaining to its investment advisory services. Any subsequent, direct communication by Wernau Asset Management with a prospective client shall be conducted by a representative that is either registered or qualifies for an exemption or exclusion from registration in the state where the prospective client resides. For information pertaining to the registration status of Wernau Asset Management, please contact Wernau Asset Management or refer to the Investment Adviser Public Disclosure web site (www.adviserinfo.sec.gov). For additional information about Wernau Asset Management, including fees and services, send for our disclosure statement as set forth on Form ADV from Wernau Asset Management using the contact information herein. Please read the disclosure statement carefully before you invest or send money.