Micro-article: Tesla #1

Updated: Jun 9, 2021

"Now along comes the potential creative destruction brought by a different distribution methodology, the Internet."

Barry Diller


Elon Musk and Tesla have recently evoked great excitement about the future of car travel and the battle against climate change. The idea of being able to drive a state-of-the-art automobile that simultaneously combats the overuse of depleted natural resources combined with the possibility of space travel in the not-so-distant future has left Mr Musk and his company in a favourable position with investors. As of 22/02/2021, its market cap (value) stands at a whopping $733 billion; 16 times the value of long-standing giants Ford. Creative destruction is the order of the day, and Tesla would appear to be serving it fresh and hot. The technology and customisability that Tesla offer in their vehicle is virtually unparalleled in the rest of the electric car market; a firm constructed from the ground up to produce an electric car capable of conquering the industry is bound to think more innovatively and rebelliously. There are, however, some doubts being cast toward the firm and whether the market is behaving rationally towards the firm or seeing past its flaws and falling victim to the affect bias. This doubt goes beyond Tesla itself; it questions the fundamental system that makes its valuation possible. One of the common metrics for determining stock under/over valuation is the price/earnings ratio, which gives a good picture of how much revenue a firm earns relative to the prices the market demands for the luxury of owning its stock. The Auto & Truck industry average stands at 156 as of 22/02/2021; Tesla P/E ratio is an astronomical 1,199. This begs the question: is tesla overrated? The hype around Tesla is reasonable if not accurate, but with such a high P/E ratio it would be expected to be undergoing a never-before seen upwards trajectory. In reality, it failed to meet analysts’ expectations for earnings in the most recent quarter. This is perhaps an instance of behavioural financial economics in play. Danny Kahneman identifies the affect bias in investment decision making when faced with an ultimatum (invest or seemingly get left behind) individuals rely on past emotions rather than quantitative data to make quick decisions. Seeing the allure of such a fashionable and ‘sexy’ company evokes such feelings and mars a rational process of analysis. This is similar to what Dr Michael Burry points to as an explanation for the overvaluation of stocks. Consumers with little qualification and knowledge want to get involved, and so turn to the stocks of firms that are on the rise and appear in the news often; he calls it ‘passive investing’ (see Michael Burry: eternal realist). So, with the affect bias and passive investing noted in the context of Tesla, it is not difficult to envision a future that includes price collapses and losses for everyday investors. In spite of this, the future of Tesla remains bright, and should it be able to keep (or exceed) the pace of growth demanded by investors and the general population, we may indeed be headed to the starts under Mr Musk.


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