Sam Zell Is Stumped: "For Amazon's Value To Be Justified, It Has To Be Worth 25% Of The US Economy In 5 Years"

Tyler Durden's picture

When it comes to the last financial crisis, few timed the peak quite as well as Sam Zell, who sold his Equity Office Properties Trust, the largest office REIT, to Blackstone in 2007, literally days before the bottom fell out of the market. So, with Goldman dying to know when the next crash will take place, it is no surprise that it picked Zell as one of the people to ask. Unfortunately, Zell was unable to provide the much desired answer, and instead when Goldman's Allison Nathan asked him "how much longer do you think the current economic expansion can last?" His answer was anticlimatic: "Frankly, I don't have any idea. If I knew the answer to that, I would be rich. A year and a half ago, I said we were in the eighth or ninth inning of the expansion. But I think the election of Trump has changed that. There is more optimism in the business sector now, which has given us extra innings. So this expansion may last a little longer than everybody thinks."

(Indicatively, when Zell says he "would be rich", it is unclear just what number he envisions besides "more": his current net worth is $5 billion according to Forbes.)

What, according to Zell is the cause for this "business sector optimism"? Surprisingly, his answer - as has been the case for a while - is Donald Trump:

Allison Nathan: Has your initial optimism post the election waned given the challenges Trump has faced in making progress on his legislative agenda?

 

Sam Zell: No, just the opposite. Despite all of the public tweeting and noise surrounding our president, the reality is that the steps he's taken on deregulation, reversing executive orders, and so forth are confidence-building and very positive. The possibility of changing Dodd-Frank to increase lending to small businesses, for example, could have a very big impact. And I think that's why the economy is responding in the same positive manner as is the stock market.

 

Allison Nathan: If tax legislation doesn’t pass, would that make you more pessimistic?

 

Sam Zell: No. Expectations about tax reform have declined over the last eight to ten weeks and are now pretty limited. Originally, there was an assumption that a lot could get done. But that outcome assumed a lot more support both from within the Republican Party and from some lawmakers on the other side of the aisle, which has obviously not come to pass. That said, I think tax legislation will be passed and will definitely feature a reduction in the corporate tax rate, likely some adjustments on the taxation of repatriated income, and maybe some reduction in taxes for middle-to-low-income people. Beyond that, I don't have much expectation for significant tax reform. And if it fails to pass, I think the opposition will be blamed, not Trump. In my view, Washington continues to be remarkably disconnected from the reality of what's going on in most of the country, and that’s reflected in Congress’s inability to get things done.

Yet while unwilling to commit to a time frame for the next recession, Zell does discusses what catalysts would make him turn bearish.

Allison Nathan: You are famous for identifying the peaks and troughs of market cycles throughout your career.  What do you look for when you are determining whether we are near an inflection point?

 

Sam Zell: I tend to see those opportunities when day-to-day activities don't make any sense to me. And there is probably nothing more relevant to seeing around the corner than assessing supply versus demand. For example, when I see people building office space without being able to identify the future tenants, as I do today, that is a warning sign that supply is engulfing demand. In general, we're humans, and we tend to follow the pendulum to extremes. The more I see extreme imbalances between supply and demand, the more I become convinced that the opposite is correct. And when conventional wisdom becomes 100% bullish I usually close my checkbook

But his best response was to a question about the current valuation of FANG darlings such as Amazon. Asked if "there places today where you think we are at or near the top of the cycle and expect a sharp reversal?" His response was classic:

I can’t explain the valuation of the big tech companies, and can't believe that we won’t see a significant correction there. For example, in order to justify the multiple that Amazon trades at today, the company would have to be worth 25% of the US economy five years from now. This situation is no different from the one in 1997, when I pointed out that Cisco’s multiple would only be justifiable if the company represented 25% of the US economy five years later. Obviously, that didn't happen, and I don't think it's going to happen with today’s big tech companies, either. I'm also generally concerned about the size, scale, and influence of these companies, which I think is out of hand and dangerous to our overall society. Absolute power corrupts absolutely, and these companies are being set up to do exactly that.

* * *

Below we excerpt some additional thoughts from Zell's Goldman interview:

  • Allison Nathan: What about on the fixed income side? Do valuations there concern you at all?

Sam Zell: Yes. Going back to my earlier comments on supply and demand, we've just come through quantitative easing in the US, and the European Central Bank is still buying and adding new money to the system. I look at all that and think there’s too much supply, so there's got to be an adjustment.

  • Allison Nathan: You called the top of the commercial real estate (CRE) cycle in 2007. Many market observers view CRE as a source of risk today. Do you agree that such concern is warranted and, if so, how big of a risk might it pose to the economy?

Sam Zell: I don’t think substantial concern is warranted just yet. The level of activity in CRE is nothing like previous periods of massive expansion, like the one that took down the economy in the 1980s, for example. In fact, the Great Recession of the late 2000s was the first recession since World War II in which we didn’t have massive oversupply of CRE built or under construction heading into the downturn. And there was a period of three or four years after the start of the recovery with almost no new construction; we didn’t begin to see a significant amount of new supply until 2013. That said, as I mentioned earlier, I see some signs that CRE supply is overwhelming demand. If it keeps going at the current rate, I would become alarmed about the potential for another CRE crash. But I am not quite there yet.

  • Allison Nathan: There has been a lot of focus on retail property coming under pressure with the rise in online shopping. How concerned are you?

Sam Zell: Well, let's start with a very simple fact: The United States has five square feet of retail space for every one square foot that anybody else has around the world. So we are starting with a significant over-allocation of space to retail. Then we bring in the internet. It makes up only about 8.5% of retail sales at this point, so we're just talking about early stages. But those early stages are creating dramatic changes. Why would anybody go to the store to buy something that they can order online and have delivered the same day or the next day? The result is that the very best retailers and the small, corner strip mall centers are immune, but everything else is either obsolete or in grave danger. And the definition of “everything else” is a lot. So I think that the retail format and platform is going to change radically. And the net result is going to be the US needing a lot less retail space across the country than we currently have and previously felt was necessary.

  • Allison Nathan: You have substantial exposure to residential real estate, which, of course, was a key source of the Great Recession. What notable residential trends are you seeing today?

Sam Zell: For over 20 years prior to the Great Recession, the US built over a million single-family homes per year, leading to a massive oversupply. But that did not apply to multi-family units, or what I'd call rental property. Post the recession, the number of new single-family homes per year dropped as low as 500,000, and new mobile homes, which at the peak reached 350,000 per year, fell to 25,000. With the collapse in supply of new single-family homes, there was significant growth in the demand for multi-family units. That growth has continued, particularly as the definition of demand has changed. When we went public with Equity Residential in 1993, it was made up  of garden apartments in the suburbs. And the definition of quality was expressway frontage. Today, we own no garden apartments in the suburbs. All of them are high-rise apartments in central business districts. And the measure of quality is walking score (i.e., how far to the subway, to Starbucks, to the gym, etc.). These are pretty dramatic changes, many of which are driven by perhaps the greatest demographic change in the last 100 years: the deferral of marriage. I graduated college in 1963 and was married ten days later. So was everybody else. Today, the average male is getting married with a three in front of his age. And the average female is almost as old. That has enormous implications for demand and for society more generally.

  • Allison Nathan: If you take a step back, how do you rate the investment environment today?

Sam Zell: I rate the investment environment as certainly not good… and certainly not bad. The real issue is that the supply of capital is at a level that I've never seen before in my career. And that oversupply of capital is dramatically reducing the rewards that you get for investment. So whereas there are always opportunities, dislocations, and inefficiencies, the number of those opportunities is significantly lower than normal relative to the amounts of capital available today.

  • Allison Nathan: What do you make of the apparently large amount of “dry powder” in private equity today?

Sam Zell: To me, dry powder reflects the amount of fear in the market. I'd say there's insufficient fear today, so there's too much capital available—and thus too much dry powder to allocate towards a limited set of opportunities given generally high asset prices. If you change the fear factor, you could go from too much dry powder to no capital available in a relatively short period of time.

  • Allison Nathan: What would instill fear in the market?

Sam Zell: How about North Korea? How about Venezuela? How about Russia? How about the South China Sea? Want me to keep going?

  • Allison Nathan: But will markets ever respond in a significant way to these geopolitical risks?

Sam Zell: I don't know the answer, but if North Korea fires an inter-continental ballistic missile at Guam, I think everybody's perception of investment will change.

  • Allison Nathan: You mentioned that there are always investing opportunities. Where do you see the most compelling ones today?

Sam Zell: The most crowded areas are in technology, applications, “disruptions,” and all of the magic words that are driving people today. But the excitement over them doesn’t make them compelling. In many cases, I don't think you're getting paid for the risk involved—and the risk, by the way, may be unbridled competition. By contrast, I see opportunities in much more mundane areas. For example, we made a big investment this year in a trash-hauling business. We're building waste-to-energy facilities. We've been buying refineries. We're looking at agricultural investments. These are all assets that people value inappropriately, in my view. And, while perhaps less flashy than tech, that's the kind of stuff that I'm always looking for.

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Number 9's picture

he is talking fundamentals..

not  a word on the plunge protection team or the fed directly infusing fiat to the corps to buy back stocks..

i wonder why

Paul Kersey's picture

"For Amazon's Value To Be Justified, It Has To Be Worth 25% Of The US Economy In 5 Years"

And if Zell doesn't think that makes sense, let him try and explain Tesla (the real Government Motors).

Shitonya Serfs's picture

AMZN will be 100% of US economy in 5 years at this pace Sammy boy.

evoila's picture

geopolitical risk? Let's just look at what caused the recession in the 70's and juxtapose that which what Saudi Arabia and Israel are scheming in the middle east. Talk about risk.

jin187's picture

I'm doing my part. Everything but my groceries comes from Amazon. Eventually, I'll buy into the whole Prime + Alexa + Smartlock. They'll bring the groceries, and put them away while I'm at work. I'll never see broadcast television, the inside of a movie theater, or a grocery store ever again.

Just like that, I'll have bankrupted every commie in the US aside from Jeff Bezos.

LoneStarHog's picture

Sam is sooooooo 1997...Even his name is at the end of the Alphabet. /sarc

jin187's picture

Because big crashes are usually due to an abandonment of fundamentals. It doesn't get any further from capitalist fundamentals than big government handing out printed money to megacorps to buy paper assets.

I have to admit that the government strategy is actually working as intended. So long as all the fiat is being funneled to the .01%, there's no loss of demand for the rest of us, keeping the dollar's value more or less the same for the moment. Worthless paper propping up worthless paper, making people believe they're rich. Once the gullible have portfolios filled to the brim with overvalued stocks, and underwater real estate, that's when the crash will happen. By that time, all the big players will have already cashed out, the bag men will get bailed out, we'll blame whoever the president is, and start all over again.

Blue Steel 309's picture

The narrative is that there is a market or, for the really stupid, a "free market".

TheSilentMajority's picture

Amazon still loses 20% on every sale.

But, they say they make up for it with volumes.

Number 9's picture

things will workout when they buy bigger trucks..

Timmay's picture

They make BILLIONS on the web services side......

Midas's picture

So I hear.  And I hear they have a great margin on that.  I have wondered how long that can last.  As a strange move, I wonder if Wal-mart shouldn't be going after that business instead of the race to the bottom on retail margins.

Nick Jihad's picture

They have a _big_ head start in the web services area, and they are not waiting for others to catch up. And Amazon runs on AWS, so it gets priority.

Blue Steel 309's picture

You mean selling data to the NSA?

Grandad Grumps's picture

Hey Sam wake up. Price and value have a zero correlation. Value is free flowing and price is controlled by AI.

Omen IV's picture

friday  but kind of early for drinking before 4PM

 

"zero" correlation - where in the Clinton Foundation?

Number 9's picture

to become a pro, one must be a breakfast drinker.. to combat hangovers never sober up

works well if you really want to ignore the world.

before my brother fell over dead he was drinking a half gallon of whiskey every 24 hours..

he didnt give a shit about the reptilian banksters.

 

 

QIG's picture

Price is still controlled by the market, volatility by AI.

BlueHorseShoeLovesDT's picture

Cuban thinks Amazon is a great growth stock, I would like to see him pay that valuation to some douchebag on Shark Tank.

affirmed_78's picture

If Bezos came into the tank, Cuban would be offering 3x trailing earnings instead of 2.5x projected 2018 sales.

Z_End's picture

Sell fucking AMAZON!

QIG's picture

Yes, anyone who thinks running packages to doorways using prop drones is no longer deceloping a business. "Good idea" merchants. Reminds me of government. Selling good dieas instead of listning to customers. Their gift pakaging is way too expensive.

tion's picture

For better or worse, Amazon is a more efficient intermediary channel for manufacturers to sell through than your typical storefront channel, lots of eyeballs and fits somewhere in between direct to consumer and wholesaling, and you can roll in fulfillment services if that's your cup of tea.  Wholesaling product to big box fronts who sell it at a 2-4x markup will continue to make less and less sense for many.

Midas's picture

Amazon has been great to me over the years, but if I am being honest, there are at least half a dozen websites I use just as much that do everything Amazon does and just as well.  Newegg, for instance.  I usually get my stuff in two days anyway, without all the prime bullshit.  Only noobs and senior citizens on the interwebz think Amazon has some sort of monopoly power.

tion's picture

Only noobs and senior citizens on the interwebz think Amazon has some sort of monopoly power.

Agreed, I was just trying to point out how the Amazon (and newegg) type model is not going away and is also of some benefit to the little guys trying to farm fiat, and the flipside to their success and the death of some retail big box is not all bad news. 

 

In other ecom news, Alibaba killed Singles Day this year, $5b in the first fifteen minutes.  Moar shit to 'satisfy' all the mgtow/fgtows, because they're worth it.

Central Ohio's picture

Amazon was the first like McDonalds and is currenlty having its day in the sun.  So, unless they get some type of governente, crony capitalism, protection, others will enter their market space.

konadog's picture

No mystery Sam. It's called central banks.  When you have a printing press in the basement, you can buy as much stock as you want and it doesn't matter at what price.

Rex Andrus's picture

Amazon is 1928 in Lagardian sophistry

Tom Green Swedish's picture

amzn = 360 sears tower buildings. or 3 times the amount of all the skyscrapers in chicago. or all the skyscrapers in chicaoand new york combined. however alibaba is worth more.

affirmed_78's picture

It's funny watching analysts try to come up with numbers to back into the current valuation of Amazon.  S&P notes the P/S ratio is attractive at only 2.5x 2018 sales estimates (a discount to internet retail peers)!  Don't worry about the profit or cash flow part, ok?!

urhotdogs's picture

Boycott anything Bezos.  He's a political hack.  Support your local economy.

Fiat Burner's picture

What's the big fucking deal with Amazon? Walmart sells the same shit at the same or lower price with free shipping. 

Blue Dog's picture

Amazon sells a lot of crappy stuff that a store won't stock. You really have to look at the reviews for some of that stuff.

Disgruntled Goat's picture

When you buy from AMZN, you are self- financing your own enslavement.

Bezos is an enslaver, right up there with the Clintons.

How do you feel about the politics of WaPo?

If you disagree with them, you have no business buying anything from Amazon or Whole Foods

Vote with your wallet.

#BoycottAmazon

#BoycottWholeFoods

# BoycottWaPo

IronForge's picture

AMZN may end up Employing 25%of Pop_USA in 5 years... ROTFL

JoseyWalesTheOutlaw's picture

How much does the CIA have invested? 

QIG's picture

Sam Zell made a LOT of money. He knows wherof he speaks. They did not call him "the grave dancer" for nothing.

Captive_Okie's picture

He made his money in the real estate segment and has great insight in that area. Now folks are listening to him about non-real estate because he's got a lot of money, from real estate, not from the stuff he's now commenting on. Of course someone capping off a nuke would jar markets, it doesn't take a genius to figure that out.

Mikeyyy's picture

Oh yeah, Sam Zell - former owner of the LA Times.  I knew his name was familiar, he's a very astute investor...

Honest Sam's picture

His take on the efficacy and futures price of Beneficial Nematodes was completely ignored. 

Disgruntled Goat's picture

Oh.... and btw.... take away Amazon Web Services and the rest of the company lost 850 million last quarter, ..... thats righr, the whole bloated online products and delivery business bleeds like a pig....  

pitz's picture

AWS is just an off-balance-sheet financier of tech startups.  So once the VC money goes away, down AWS goes!

Disgruntled Goat's picture

Lets play a game:

Can anyone guess another equity trading in triple digits, which has  PE greater than its stock price ????

nailgunner44's picture

I see what you did there, NFLX and IMAX. Hehe might be a good time to look at shorting these names given the current state of Pedowood. Well played sir.