This article is indicative of the deflationary trend in the U.S. PC hardware market. CBQ's sale of Chinese computers here will accelerate that trend.
OPINION: ERIC J. SAVITZ
Price Choppers
In case the tech sector doesn’t have enough problems, here's another one: The recovery, when it comes, could be undone by deflation.
Aug 29 2001 06:01 AM PDT
OPINION One of the most shocking pieces of technology news in recent weeks was the word that Intel plans to slash prices on its Pentium IV microprocessors by 50 percent or more – dropping what Lehman chip analyst Dan Niles described as a "price bomb."
Now, there’s nothing new about declining chip prices. The steady ratcheting down of computing costs over time is at the heart of Moore’s Law – over time, the cost of a given amount of computing power becomes increasingly small. More precisely, chip processing speed doubles about every 18 months.
But Intel’s move, apparently designed to knock the wind out of rival Advanced Micro Devices and to stimulate PC demand, smacks of something more insidious. In short, while Moore’s Law continues to operate, in some very important ways it may not matter as much as it used to. And deflationary forces like those in the processor business could go a long way toward muffling the tech recovery - whenever it finally shows up.
At least, that’s the thinking at the Precursor Group, a Washington-based investment boutique. Analysts Scott Cleland and Bill Whyman assert in a recent report that investors have failed to realize that "serious deflationary pressures" could undercut the ability of the technology and telecom sectors to grow rapidly when the recovery arrives. Writes Precursor: "The sector’s fundamental potential for growth is eroding."
Certainly, a reduced impact from Moore’s Law would have a chilling effect. As Precursor points out, Moore’s Law may have been the single biggest driver of the tech boom over the last two decades. But Cleland and Whyman contend that the importance of Moore’s Law to hardware companies – and to investors – has been reduced by the failure of the software business to create the kind of applications that require the power state-of-the-art processors can offer.
"In the last year, hardware performance for the first time has dramatically outpaced software’s ability to use it," they write. The result? "The faster-growth PC replacement cycle of the past is over."
The combination of excess processing power and the commoditization of memory and data storage, Precursor says, means "longer replacement cycles, reduced demand and deflationary price traction" for the PC business. In short, the analysts conclude that "Moore’s law may have lost much of its investment traction."
Alas, that’s not the end of Precursor’s deflation thesis. The firm sees further pressure coming from the glut of fiber capacity, asserting that new demand is "way overestimated" given that no killer app requires fiber to the home. As they point out, DSL and cable modems certainly don’t require it. Deflationary forces in telecom, Cleland says, have been exacerbated by both telecom legislation and FCC policy, which have encouraged competition, added costs and constricted the industry’s ability to raise prices.
Cleland and Whyman believe that conditions in microprocessors and communications services share the same issue: The market simply can’t absorb the existing capabilities of either technology. "Fiber and silicon technology is now flooding the market with bandwidth and processing speed in market segments that can’t put it to full use, which deflates prices and slows growth."
Precursor’s analysts advise tech investors to weight their portfolios toward companies that stand to benefit from declining hardware and equipment prices. The firm remains bullish on the "access" business, in particular the Baby Bells and the cable systems companies. The analysts are also favorably inclined toward enterprise software companies, as well as on computer services and consulting firms. But they recommend avoiding the deflation-vulnerable hardware companies. Those stocks, Precursor warns, "could prove to be a particularly thin base for a growth portfolio."
Consider yourself warned.
