• by Mark Walsh  @markfwal, November 1, 2007

Despite financial gloom, there's no sign of weakness in the Internet ad boom

For the last few years, online spending has been the growth engine of advertising, posting 30 percent annual gains on the promise of a digital media future. Then came the mortgage meltdown and fears of a broader recession threatening to blow a hole in the Web 2.0 bubble.

Is the housing-market mess a grave and gathering threat for online advertising or only a passing squall?

For now, most industry analysts say the latter. Online ad estimates are expected to remain on track through 2008, and analysts foresee little or no impact from the mortgage industry crisis and a minimal chance of recession. Informing the optimistic outlook is the continued health of Web spending so far in 2007 and the Internet's emergence as a key direct response ad medium.

"Our sense is that offline is more at risk than online," says Piper Jaffray analyst Aaron Kessler, who focuses on the Internet and advertising sectors. "Financial advertisers view online as a more profitable channel." Piper Jaffray expects U.S. online advertising to grow by 27.8 percent this year, in line with most forecasts predicting about a 30 percent increase for 2007.

Say Goodbye to Dancing Cowboys?
Spending figures released in October by the Interactive Advertising Bureau for the first half of 2007 gave increased confidence to bullish forecasters. The IAB data showed a 27 percent increase over 2006 to nearly $10 billion, with financial-services spending down slightly to 15 percent from 16 percent, or $1.5 billion to $1.3 billion, from a year ago.

The lending crisis that has driven companies such as Countrywide Financial, the nation's largest mortgage company, into deep financial trouble, hasn't led to a corresponding decline in online advertising by mortgage lenders so far this year.

For the first nine months of 2007, spending by mortgage and home equity advertisers on Internet display ads increased to $669.6 million from $146 million in the year-earlier period. Countrywide and other big online advertisers such as Experian and Low Rate Source also buy search advertising.

But the sector may still suffer as the flashy ads aiming to entice consumers with low rates and little disclosure come under increasing scrutiny by federal regulators.

In September, the Federal Trade Commission sent out letters to mortgage advertisers warning them against running ads online and in other media that make "potentially deceptive claims about incredibly low rates and payments."

The Securities and Exchange Commission and several state attorneys general have also launched investigations into the sub-prime lending market.

Countrywide has already said it planned to cut back on some of its most popular loans, and in September its online ad buying fell slightly by 1.5 percent to $34.9 million. Low Rate Source's spending, meanwhile, plunged 56 percent from $51.7 million to $22.9 million.
Even if those dancing cowboy ads were to disappear, it still wouldn't derail the strong growth of online advertising, according to Brian Wieser, senior vice president and director of industry analysis at Magna Global. "You'd still see something like 20 percent growth," he says. That would also still be well ahead of the 3.1 percent growth that Bob Coen, senior vice president and director of forecasting at Magna's sister agency Universal McCann, projects for overall U.S. ad spending in 2007.

For its part, market researcher eMarketer is trimming its previous estimate of $21.7 billion for online advertising this year by less than $1 billion because of a dip in financial services spending. The firm still foresees growth of about 28 percent in 2007, as other categories such as consumer packaged goods, retail and autos drive online display advertising.

Analysts emphasize that direct marketing remains the Internet's core strength. "Marketers talk about doing more branding online but it's still a direct response medium and search dominates," notes eMarketer senior analyst David Hallerman.

For the first half of the year, search accounted for 41 percent of online ad dollars, followed by banner/display ads at 21 percent and classifieds at 17 percent. Underscoring the Internet's role as a direct response domain, perfomance-based deals eclipsed CPMs as the leading pricing model by 50 percent to 45 percent.

Chasing the Digital Rabbit
Looming larger as a threat to Web advertising's stellar growth is a wider recession triggered by the housing sector woes. Recession fears eased in early October when the Labor Department reported a gain in job growth in September and revised upward its estimate of hiring in August. But a slowdown in job creation over the last six months and rising unemployment claims in recent weeks may signal longer-term problems. 

The Federal Reserve Bank of Philadelphia's Survey of Professional Forecasters in August revised their third-quarter economic growth estimate down from 2.6 percent to 2.5 percent, but projected growth rebounding in 2008 to 2.8 percent.

Magna's Wieser likens the current mortgage crisis more to the Long Term Capital Management scandal in 1998, when the giant hedge fund's implosion threatened broader financial fallout than the early 2000s recession. "This feels more like a temporary downturn in the capital markets," he says. "None of this suggests any change to how marketers are going to increase or decrease their marketing expenditures."

Not everyone is so sanguine. Former dot-com stock cheerleader turned Web 2.0 blogger Henry Blodget has argued the mortgage collapse will spill over into the financial sector generally, leading to a pullback in online advertising.

Posting last month in Silicon Alley Insider, he pointed to coming third-quarter losses and layoffs from Citigroup, Merrill Lynch and UBS as a result of the sub-prime crisis. "The reeling mortgage sector is just one symptom of a fast-spreading disease that will ultimately weaken most of the economy," he wrote.

Should a recession shrink marketing budgets, Web 2.0 companies could be among the most vulnerable, as social networks and mobile content are viewed as more experimental ad buys.