I know it is fashionable now to attribute all things related to interest rates to the Fed's actions, but the bulk of the decline in treasury rates occurred before the Fed finally acted in mid-March, and it is surprising how little movement there has been in treasury rates in the months since. Since some of the premium can also be explained by its presence in the insurance business, I compared the price to book for Berkshire to that of general insurance companies listed and traded in the United States. Looking at oil and copper, two economically sensitive commodities, you see reflections of the turbulence that affected equities and corporate bond markets: Both oil and copper prices dropped significantly between February 14 and March 20, with oil showing a much larger decline (down more than 50%) than copper (about 15%), but both commodities have recovered, with copper now up almost 17% from pre-crisis levels. Finally, I look at gold and bitcoin, an odd pair, but both touted by their advocates as crisis assets: While bitcoin is now up more than gold over the period, gold has performed better as a crisis asset, holding its own when equities were melting down between February 14 and March 20. As it grows, Airbnb's share of those gross bookings is likely to plateau at close to current levels, but its operating margins will continue to improve towards travel booking industry levels, as product development, marketing and G&A costs decrease, not in dollar terms, but as a percent of revenues. To get a measure of the business, I have listed the 25 largest publicly traded hotel companies (in market capitalization) in the world below, with Marriott topping the list, with revenues of about $21 billion in 2019: While the hotel business is the one being disrupted the most by Airbnb, it is the travel booking business that is closest to the Airbnb business model. var s = document.getElementsByTagName('script')[0]; Defined thus, the evidence that value investing works has always been weaker than just looking at the top lines, though the strength of the evidence varies depending upon the strand of value investing examined. Since I have my estimated  value for Airbnb at $36 billion, I will go first, using the valuation results, by decile, that come from my simulation: The Sharing Economy come home: The IPO of Airbnb! It is also where I provide my estimates of equity risk premiums and costs of capital. Aswath Damodaran at 2:51 PM No comments: Labels: IPO, Sharing Economy, Value ... it is this resilience of risk capital that explains why the equity risk premium for the S&P 500, ... and to address that question, I decided to value the S&P 500 again; I did value it on June 1, 2020 and found it to be close to fairly valued. As I noted in my last post, there is no doubt about Buffett's success over the decades, but as the man turned ninety this year, it is worth asking whether the continued use of his name is more a sign of weakness in value investing, rather than of strength. This one has been no different, and while I will not tell you that I have enjoyed it, I have learned some lessons from it. The best indicator of how the market has also lowered the value it attaches to his stock picking is in a number that has the Buffett imprimatur, the ratio of price to book at Berkshire in the last few years: Since Berkshire's assets are primarily in publicly traded companies, and these investments have been marked to market for all of this period, one way to look at a portion of the premium that investors are paying over book value is to consider it to be the stock picker premium. In order to calculate the equity risk premium for Croatia, one would, according to Damodaran, have to add an additional country risk premium to the premium for the mature market. In the table below, I list out the value of equity in Airbnb for variants of gross booking growth and operating margins: Rather than view this table as anything goes, I would use it to make break even assessments, given what Airbnb trades at. That said, though, it is worth peeking under the hood to see how this business model plays out as revenues and earnings. Note that the base premium for a mature equity market at the start of 2020 is set to the implied equity risk premium of 5.20% that we estimated for the S&P 500 at the start of 2020. To estimate the equity risk premium for a country, I start with a mature market premium and add an additional country risk premium, based upon the risk of the country in question. In the table below, I look at the revenues and operating income at these companies in 2019 and the last 12 months: While Expedia and Booking.com both generate revenues from operating as middlemen between travelers and hospitality providers, just like Airbnb does, there are two key differences: To value Airbnb, I will follow a familiar script, at least for me. After all, the ride sharing companies have doubled or even tripled the size of the car service business in the last decade, using this template. In its prospectus, driven partially by its past success, and partly by the need to justify a large market cap, Airbnb has expanded its estimate of market potential to $3.4 trillion, as evidenced in this excerpt from the prospectus: The conventional hotel business is an asset-heavy business, with a significant real estate component to its value, and while some hotel companies have stayed with that model, others have moved on to a more capital-light model, where the real estate is owned by a separate entity (both in terms of ownership and control) and the hotel companies operates primarily as an operator. Oil, in spite of its comeback in the last few months, is still down more than 30% from pre-crisis levels. 54 From Country Equity Risk Premiums to Corporate Equity Risk premiums ¨ Approach 1: Assume that every company in the country is equally exposed to country risk. It is only fair that I go first. (function() { A Viral Market Update XIII: The Strong (FANGAM) get Stronger! Equity risk premiums are a central component of every risk and return model in finance and are a key input into estimating costs of equity and capital in both corporate finance and valuation. In fact, one of the pitches that growth investors made, with some success, during the glory days of value investing was that you could still succeed as a growth investor, if you had the capacity to time the value/growth cycle. ERP at the end of 2020 does not look abnormal, but the expected rerturn on stocks has not been this low in 60 years. The proof of a business is in the numbers, and Airbnb, in addition to posting impressive numbers on hosts, listings and guest nights, has also seen financial results from that growth. Investing in low PE or low PBV stocks would not be considered true value investing, by most of its adherents. Marriot, for instance, follows the latter model, with the Marriott REIT owning the real estate, and Marriott collecting operating revenues from running the hotels. While some in this group see this as a passing phase or the result of central banking overreach, I believe that value investing has lost its edge, partly because of its dependence on measures and metrics that have become less meaningful over time and partly because the global economy has changed, with ripple effects on markets. I capture this in the table below, where I first look at value changes across companies, first classified across PE ratios and then across dividend yields: Value investors have also warned us over the last decade about two trends in corporate behavior, an increase in. The ERP is essential for the calculation of discount rates and derived from the CAPM. The market risk premium reflects the additional return required by investors in excess of the risk-free rate. There is a debate to be had about whether markets have over adjusted to the possibility of a vaccine and the economy reopening, and to address that question, I decided to value the S&P 500 again; I did value it on June 1, 2020 and found it to be close to fairly valued. using book value as a basis for estimating intrinsic value. Put simply, rather than operate under the delusion that it is value that drive decisions, it is healthier to recognize that bankers price IPOs, not value them, for the offering, that much of the trading on the offering day and the weeks thereafter is driven by traders, trying to gauge mood and momentum. While the company has been able to hit new milestones of growth each year, there are two challenges that it has faced along the way, that need to be incorporated into any valuation you attach to the company today. In the graph to the right, you can see the effects on the financials, in a comparison of first nine months of 2019 to the first nine months of 2020, with gross bookings dropping 39% and operating losses almost tripling over the period. Especially after the COVID experience, there are at least some value investors who are willing to consider the possibility that it is time to change the way we practice value investing. A Viral Market Update XIV: It's a wrap, premature or not! None of these studies have found any evidence that value fund managers are more likely to beat their index counterparts than their growth fund counterparts. With these inputs, my valuation of Airbnb is captured in the picture below: The value that I derive for Airbnb, with my story and inputs, is about $36 billion, with $3 billion in expected proceeds from the IPO augmenting the value and netting out the value of options outstanding. If we call this active value investing, the true test of value investing then becomes whether following value investing precepts and practices and picking stocks generates returns that exceed the returns on a value index fund, created by investing in low price to book or low PE stocks. The equity risk premium is the price of risk in equity markets, and it is a key input in estimating costs of equity and capital in both corporate finance and valuation. First, this crisis has played out very differently in different parts of the world, as you can see below, where I break down the market capitalizations of all publicly traded companies, by region, on February 14, 2020 and on November 1, 2020, with a table showing the percentage changes over the period: The markets that are showing the most residual damage are. There is ample room for disagreement on Airbnb’s value, since there are plausible combinations of revenue growth and margins that deliver very different equity values. Note that winner stocks continue to win, in both time periods examined, in the first twelve months after the portfolios are created, though those excess returns fade in the months thereafter. For instance, if the market capitalization of Airbnb today is $60 billion, you would need it to deliver gross billings of $200 billion in 2031, with an operating margin of close to 35%. You can try the search engine below and if that does not work, try this guide to the site. Updating the numbers through November 1, here is how these six companies have performed over the crisis, relative to the rest of the market: The best way to summarize how this crisis has affected companies is to summarize the value transfer from what would be consider "risk on" categories (young, high growth, high PE, low or no dividends and high debt) to "risk off" categories (old, low growth, low PE, high dividends and low debt), looking at the top and bottom deciles of each grouping: Note that in almost every category, other than debt, the "risk on" group gained value at the expense of the "risk off" group. The travel business was particularly exposed, as people curtailed flying and traveling to distant destinations, and Airbnb was hurt badly in 2020, as can be seen in the graphs below: The graph to the left looks at the effect of COVID on gross bookings and cancellations (in millions of nights), with the net bookings representing the difference. Low PE and low PBV stocks have lost value during this crisis, just as high PE and PBV stocks have gained in value. All in all, it has been an interesting roller coaster ride over these last few months, and I am glad that you were able to join me for at least some of the ride. In this section, I will look at the contours of this pricing game for Airbnb, and implications for investors who may be more concerned about value. uValue is available at the iTunes store. The very first of these posts, on February 26, 2020, was about two weeks into the meltdown and it is indicative of how little we knew about the virus then, and what effects it would have on the economy and the market. A Viral Market Meltdown II: Pricing or Valuing? It is telling that value investors, when asked to defend their capacity to add value to investing, almost never reference that research, partly because there is little that they can point to as supportive evidence, but instead fall back on Warren Buffett, as their justification for value investing. gcse.type = 'text/javascript'; A Viral Market Update VIII: Value vs Growth, Active vs Passive, Small Cap vs Large! Investors, when asked to pick an investment philosophy, gravitate towards value investing, drawn by both its way of thinking about markets and its history of success in markets. Hence, risk-free assets are exposed to zer… As equities went on a turbulent ride, other asset classes were also affected, with US treasuries benefiting from a flight to safety in the first five weeks: US treasury yields dropped across all maturity classes between February 14 and March 20, with short term rates dropping close to zero and 10-year T.Bond rates dropping fro 1.7% to 0.7%. Again, the shift in value is clear and decisive, with consumer discretionary, technology and health care gaining at the expense of energy, real estate, utilities and financials. !function(d,s,id){var js,fjs=d.getElementsByTagName(s)[0];if(!d.getElementById(id)){js=d.createElement(s);js.id=id;js.src="//platform.twitter.com/widgets.js";fjs.parentNode.insertBefore(js,fjs);}}(document,"script","twitter-wjs"); My name is Aswath Damodaran, and I teach corporate finance and valuation at the Stern School of Business at New York University. The equity risk premium, or the expected return stocks will provide over government bonds sits at above 6% versus an average of 3.2%, according to data from Aswath Damodaran , professor of corporate finance and valuation at … Industry Name: Number of firms: Beta : D/E Ratio: Effective Tax rate: Unlevered beta: … Teaching: The Spring 2019 Corporate Finance class, now fully archived, can be found here and the archived Spring 2019 Valuation class is linked here. Download the latest version of my annual equity risk premium update by clicking here and the latest version of my annual country risk update by clicking here. However, if your argument is that markets have gone crazy and that nothing explains stock prices, you may want to evaluate that view, and consider at least the possibility that your world view (about how the economy will recover and the virus will play out) is wildly at odds with the market consensus. I believe that Airbnb will continue to grow, while finding a pathway to profitability. I revisited my assumptions, updating my estimates of earnings for the index in the near years (2020, 2021 and 2022), where the bulk of the damage from this crisis will be done. The fourth, tools, incorporates the spreadsheets that I have developed over time to value and analyze companies and short in-practice webcasts on how to analyze companies. My book on Narrative and Numbers, from Columbia University Press, should be in bookstores and the third edition of The Dark Side of Valuation came out in 2018. Once the virus made its presence felt elsewhere, in February and March, countries responded with partial and full economic shut downs that hurt all businesses. In this section, I will start with a look at the market size and then examine the hotel and booking companies that comprise its competition. As at 31 March 2020, the BSE Sensex Index closed at 29468 points and the average dividend yield on the index was approximately 1.41%. Damodaran calculates the country risk based upon the local currency sovereign rating for the country from Moody’s or with the CDS spread for the country (if one exists). To make a judgment on Airbnb's future, we need to understand two peer groups. Download spreadsheet with simulation results, Regional breakdown - Market Changes (November 1, 2020), Country breakdown - Market Changes (November 1, 2020), Sector breakdown - Market Changes (November 1, 2020), Industry breakdown - Market Changes (November 1, 2020), PE breakdown - Market Changes (November 1, 2020), PBV breakdown - Market Changes (November 1, 2020), Dividend Yield breakdown - Market Changes (November 1, 2020), Cash Return breakdown - Market Changes (November 1, 2020), Age breakdown - Market Changes (November 1, 2020), Revenue Growth breakdown - Market Changes (November 1, 2020), Debt load breakdown - Market Changes (November 1, 2020), Valuation of the S&P 500 on November 1, 2020. To estimate the long term country equity risk premium, I start with a … You will find not only the material for the classes (lecture notes, quizzes), but also webcasts of the classes that you can access on different forums. Investing or Trading? As markets have risen over the last few months, there has been a fair amount of hand wringing about animal spirits and irrational exuberance driving markets higher. Check under data for downloads and links, as well as archived data from prior years. The hotel business is both large and diverse, composed of hotels that range the spectrum from luxury to budget. In short, the fact that value stocks, at least based upon the price to book proxy, delivered higher returns than growth stocks, again using that proxy, obscures the reality that there were periods of time even in the twentieth century, where the latter won out. As I list some of these changes, they may sound heretical, especially if you have spent decades in the value investing trenches. Given that much of Europe is going into lockdown, and that there is no vaccine in sight, this may seem premature, but I have a feeling that there will be other uncertainties that will vie for market attention over the coming weeks, especially as the US election results play out in legal and legislative arenas. Given how much trouble Airbnb has had in the experiences business, I think Airbnb’s estimate of $1.4 trillion for that business is more fictional than even aspirational. As a market participant, you have three ways of participating in the Airbnb sweepstakes: : If you are truly a value investor, you should not be ruling out Airbnb just because it is money-losing or a young company facing multiple uncertainties. We also present an overview of our analysis and conclusions regarding an appropriate equity market risk premium to be applied as per 31 December 2020. The picture below shows equity risk premiums, by country, at the start of 2020: The only saving grace is that activist investing is a skewed game, where the winners win really big, and many of the losers drop out. Over the last eight months, I have written a series of posts on the market and how it has adapted and adjusted to COVID. In my next post, I will look at some of these changes. Data Update 4 for 2021: The Hurdle Rate Question! Note that the real estate risk premium in the 1980s was not only well below the equity risk premium and the default spread, it was sometimes negative. I was hoping to move on from Tesla to my data update posts, but my last post on Tesla drew some attention, in good and bad ways, partly be... On Monday, November 16, Airbnb filed it’s preliminary prospectus with the SEC, starting the clock on its long awaited initial public offering. While the earliest studies of mutual funds looked at them as a group, and concluded that they collectively under performed the market, later studies have looked at mutual funds, grouped by category (small cap vs large cap, value vs growth) to see if fund managers in any of these groupings performed better than managers in other groupings. There are two key drivers of Airbnb’s value. Value Investing III: Requiem, Rebirth or Reinvention? To value Airbnb, we need to start with an assessment of the market that it is targeting and then understand the competition that the company faces. That business is also dominated by large players, with Expedia and Booking.com being the biggest. Instead, you should value Airbnb yourself, and draw up decision rules well ahead of the offering. A Risk-Free Asset is an asset whose returns in the future are known with certainty. While the US remains the largest market, geographically, Asia is the center of growth, with China leading the way. It is definitely not over, but I have a feeling it is time for me to move on. In this post, I intend to wrap up this series with a final post, reviewing how value has been reallocated across companies during the months, and providing an updated valuation of the S&P 500. In contrast, the crypto currencies (Bitcoin and Ethereum) have behaved like very risky equities, going down more than equities, when stocks were going down, and rising more, when they rose. NYU’s Damodaran says the S&P 500 is probably fairly valued at 2,900 to 3,000 based on projected earnings, interest rates, ... June 15, 2020…