By Patrick Conley, Senior Associate
The past few years have seen no shortage of booms and busts. In a short period of time during the pandemic, much of the world learned about cryptocurrencies, NFTs and blockchain for the first time, watched their prices skyrocket, and then followed their collapse. At the same time, Mark Zuckerberg’s Metaverse dominated tech media coverage until the release of Chat-GPT sparked the ongoing surge of media and investor interest in generative AI.
This phenomenon is hardly new and dates back to at least the 1630s when the price of Dutch tulips exploded and then collapsed in the world’s first recorded speculative bubble. Technology consulting firm Gartner describes this pattern as a “hype cycle”. Intense interest in a new idea or product creates a spike in the valuation of any company associated it, only for those valuations to collapse once it becomes clear that prices have become divorced from underlying financial performance or intrinsic value.
Chart 1. Gartner’s Hype Cycle
If this pattern sounds especially familiar to any group outside the world of business, it may very well be the quarterbacks of the NFL. In football-obsessed America, where football games accounted for 82 of the 100 most watched television programs in 2022, the quarterback position is especially scrutinized and dissected. Beyond the games themselves, popular sports debate shows like ESPN’s “First Take” and FS1’s “Undisputed” draw millions of viewers every week and often pay particularly close attention to quarterback performances. In this environment, narratives can quickly swing wildly with only a few games.
Matt Flynn is one of the most extreme examples of this. After a successful college career at LSU, Flynn was drafted by the Green Bay Packers in the 7th and final round of the 2008 NFL Draft behind 208 other prospects. With very limited expectations, Flynn settled into being Aaron Rodgers’ backup for several years. This changed in the final game of the 2011-2012 season, however, when Flynn threw for a franchise-record 480 yards and six touchdowns against the Detroit Lions.
Despite having only thrown 132 passes in two starts over four seasons, the performance was good enough to earn Flynn a three-year, $26 million contract with the Seattle Seahawks. Amid plenty of praise and a fair bit of questioning whether his game against Detroit was an anomaly, Flynn was beaten out for the starting quarterback role by rookie Russell Wilson just months after signing and would never start a game for Seattle. He was traded to the Oakland Raiders to be their starter in 2013 but was benched and later released only two months into the season. After short stints as a backup for several teams, Flynn retired in 2015 having started just seven games during his NFL career.
More recently, San Francisco 49ers quarterback Brock Purdy has sparked a furious debate amongst pundits. After becoming the 2022 NFL Draft’s “Mr. Irrelevant,” a title given to the last player selected each year, Purdy’s impressive performances since then have led opposing camps to either argue he should be this season’s MVP or dismiss him as a “system quarterback” who owes his success to the fact that he happens to play with some of the most talented players and coaches in the league.
The core challenge in evaluating both emerging technologies and prospective NFL quarterbacks is that even though most bets will not pay out, some will produce spectacular returns. If the average early-stage tech investor or NFL scout only focused on the fact that most of their choices will not be successful, regardless of how hyped they are, they would likely make many small investments without putting too much stock in anyone. In football this might mean taking a quarterback at the end of the draft every year in the hopes you eventually land a Brock Purdy, and in tech this could mean giving a small amount of seed funding to many startups in distinct sectors. While most NFL scouts and venture capitalists will acknowledge their success rates are fairly low, their investments are often skewed by the fact that an early investment in Apple, Tom Brady, Google, or Aaron Rodgers can transform an organization. In other words, the hype cycle is a product of an asset being very difficult to evaluate but having the potential to produce large returns. Either enticed by the allure of getting in early on the “the next big thing” or scared of missing out altogether, talent evaluators can quickly be swept up in the hype and make bad decisions. Paradoxically, this can mean both overvaluing even the best new entrants or dismissing future superstars as frauds.
Perhaps the best example of this is the “dot-com bubble” of the late 1990s and early 2000s. Initially, investors flooded money into internet startups they hoped would transform the global economy. In this surge, the stocks of companies like Cisco and Amazon increased by more than 4,000% before reality set in. Though some of these companies were indeed promising, the amount of money pouring into young startups meant that investment levels were wildly outpacing the financial returns that internet companies were capable of producing at that time. When the bubble burst, many companies went out of business and some survivors saw their share prices drop by more than 90%. Today, however, we know that the dot-com bubble was little more than a bump in the road for companies like Amazon, Apple and Microsoft. Just as those continuing to invest at the peak of the bubble were being recklessly speculative based on the information available to them at the time, those who sold during the low or never bought in at all missed out on companies that are among the most valuable in the world today.
Chart 2. Tech Stocks During the Dot Come Bubble
|Jan. 3, 1995
|Feb. 8, 2024
(May 1997 IPO)
Source: Yahoo Finance
In both sports and business, this is the great irony of the hype cycle. Whether you choose to say that cryptocurrency, Brock Purdy, generative AI, or Caleb Williams are going to be the most significant things to ever happen in their field or the least, merely participating in the hype is what will doom your perspective. Many of the people who participated in the GameStop “meme stock” craze of January 2021 lost money by failing to sell in time, but the company’s stock is still nearly 18 times higher than it was in July 2020. Similarly, many of the critics who felt vindicated in 2014 when quarterback Geno Smith lost his starting job after two years with the New York Jets look foolish now that he is playing the best football of his career for the Seattle Seahawks.
In short: chasing the hype never pays. Someone who leapt from crypto to the metaverse to AI was doomed to buy high and sell low in the same way that the Carolina Panthers have struggled to find success as owner David Tepper fires coach after coach in quick succession. Evaluating the potential of a technological innovation or quarterback is a task that will inherently produce failures from even the best in the world, so the first step to success in either field is establishing a clear strategy and sticking to it in the face of public pressure. Successful strategies can vary significantly and still find success as long as they are based in sound logic from the beginning and sustained through the many ups and downs of the hype cycle.
This strategy really boils down to investing 101: buy low and sell high. Warren Buffet’s strategy has always focused on buying sound businesses that are undervalued by the market. This is, in some ways, analogous to Bill Belichick’s approach to player acquisitions and development during his time as head coach of the New England Patriots. Rather than handing out big contracts to free agents, the Patriots focused on developing their own talent and not overpaying for anyone. Quarterback Tom Brady was a sixth-round draft pick and, throughout his time in New England, was never among the league’s highest paid players. Even Randy Moss, often seen as the most high-profile acquisition of the Belichick era, was traded from Oakland to Foxborough at a low ebb in his career for only a fourth-round pick. This approach of refusing to buy high under any circumstances helped earn Belichick an unprecedented six super bowls between 2002 and 2019 and made Buffet the richest man in the world for years.
Bet the House
This should not imply, however, that choosing to spend big or change course is always antithetical to winning. If an investor or franchise identifies a small time period with potentially outsized rewards, it can pay to go all in. In 2018-2019, the Los Angeles Rams were built along the model we discussed above with a talented roster surrounding young quarterback Jared Goff who was making only $2 million annually. After losing the 2019 Super Bowl to New England, however, the Rams decided that they needed to add to their roster to win a championship. That offseason, the team paid a huge price of two first-round and one fourth-round draft picks for cornerback Jalen Ramsey. This failed to pay off and the team missed the playoffs entirely that season and lost in the next year’s Divisional Round.
Going into 2021, the team’s front office decided to double down and jettison even more draft capital. That offseason, the team traded Goff to Detroit in exchange for the much older and more highly paid Matthew Stafford, sent two draft picks to Denver for linebacker Von Miller and signed veteran receiver Odell Beckham Jr. mid-season. With one of the most talented rosters in recent memory, the team went on to win the Super Bowl that year. In a sport where players’ careers are constantly threatened by injury and championship windows can be brief, the Rams decided to pursue an unorthodox strategy of swapping valuable draft picks with future potential for proven talent that could help them win a championship in the near-term and were rewarded for it.
In some ways, this is reminiscent of Elon Musk’s approach to investing. After his initial success founding PayPal, Musk has routinely flirted with disaster including nearly running SpaceX into bankruptcy after early failed launches, using Tesla stock as collateral for loans, and of course his $44 billion acquisition of Twitter which very few would characterize as a value buy. Putting aside any preconceived notions of Musk’s investing or the implications of trading draft picks for aging stars, Musk is one of the richest men in the world and the LA Rams reached the pinnacle of their sport by winning a Super Bowl. For every example like this there are obviously many Albert Haynsworth contracts and Sam Bankman-Frieds, but when savvy executives pick the right moment to make large bets it can produce major dividends.
Timing is Everything
John Harbaugh’s tenure with the Baltimore Ravens is another example of how important timing is to any strategic pivot. Until recently, his teams were known for having tough defenses and asking relatively little of the quarterback position. That all changed, however, when the Ravens drafted Lamar Jackson in 2018. After winning the Heisman Trophy at Louisville, Jackson entered the NFL draft amid calls for him to move from quarterback to wide receiver because of questions about his height and throwing accuracy. This view was particularly poignant because of the NFL’s longstanding Black quarterback problem. Although the NFL integrated in 1946, racial prejudices among scouts, executives and coaches made it exceedingly difficult for Black quarterbacks to win starting jobs. Warren Moon, one of the greatest quarterbacks of all time, was famously forced to spend the first five years of his professional career in Canada before he was given an NFL contract by the Houston Oilers in 1984.
The number of Black starting quarterbacks has never been higher in the NFL, but these narratives about Jackson’s perceived defects coupled with historic biases created public pressure to not play him at quarterback. Awed by Jackson’s unique combination of speed and arm strength, however, Harbaugh decided to completely reinvent his offense around his new quarterback. A decade since Baltimore’s defense-led 2013 Super Bowl win, the Ravens’ once sluggish offense is now one of the most prolific in the NFL and Jackson has made two Pro Bowls, led the NFL in passing touchdowns and ran for a quarterback record 1,206 yards in one season. The Ravens choice to award Jackson an eye-watering five year, $260 million deal last offseason will limit the team’s ability to put additional talent around him, but Harbaugh’s choice to reorient his approach despite public pressure has been rewarded with an MVP-caliber season and the best regular season record in football this year. Although they were ultimately eliminated by the Kansas City Chiefs in the AFC Championship game, Baltimore looks like they will still be a contender in the years to come.
Thinking Beyond the Hype Cycle
Despite adopting radically different tactics, New England, Los Angeles and Baltimore have each found success by crafting a strategy that suited their personnel and maintaining that approach through various ups and downs in the hype cycle. Belichick’s New England teams remained committed to value, the Rams went all in when they felt their chances were strongest, and Harbaugh recognized Lamar Jackson’s generational talent despite the popular narrative.
However, each of these teams were obviously in the enviable position of having elite talent that most franchises do not. When a team doesn’t have this type of talent on its roster, the best option might be to “tread water”. After the 2021-2022 season, the Pittsburgh Steelers parted ways with long time quarterback Ben Roethlisberger and the Atlanta Falcons did the same with Matt Ryan. While Pittsburgh drafted Kenny Pickett with the 20th pick and Atlanta took Desmond Ridder with the 74th in the next offseason, both franchises have faced pressure to acquire either an established veteran or a high draft pick where they could select a quarterback with more upside. Instead, both franchises have chosen to spend their resources on building up other parts of their roster and let their current quarterbacks develop while they wait and see what options emerge.
If a team makes a big free agent signing or a company makes a transformative acquisition, anxious fans and shareholders will often put pressure on their competitors to follow suit. Time will tell how Ridder and Pickett develop or if their teams’ future front office decisions pay off, but both teams deserve credit for not relenting to public pressure to make a move just for the sake of it.
Generative AI and Caleb Williams could both turn out to be once in a lifetime opportunities, but the organizations that pursue them will need to think carefully about how they fit into their long-term strategy rather than just grabbing at the consensus “next big thing”. It is unlikely that Williams will reach his full potential if he is drafted by a franchise that doesn’t have the infrastructure necessary for success or the plans to build it, just as companies throwing AI into their investor communications could raise public expectations of their business without meaningfully adding to their portfolio. New technologies and quarterback prospects are extremely difficult to evaluate based on limited sample sizes, so the organizations that succeed will be the ones who are not following the crowd but pursuing their own strategy and looking to find the assets that will best compliment their current portfolio.