What Was the Dotcom Bubble?
The dotcom bubble was a rapid rise in U.S. technology stock equity valuations fueled by investments in Internet-based companies during the bull market in the late 1990s. The value of equity markets grew exponentially during this period, with the technology-dominated Nasdaq index rising from under 1,000 to more than 5,000 between the years 1995 and 2000. Things started to change in 2000, and the bubble burst between 2001 and 2002 with equities entering a bear market.
Thecrashthat followed saw the Nasdaq index, which rose five-fold between 1995 and 2000, tumble from a peak of 5,048.62 on March 10, 2000, to 1,139.90 on Oct. 4, 2002, a 76.81% fall. By the end of 2001, most dotcom stocks went bust. Even the share prices of blue-chip technology stocks likeCisco, Intel, and Oracle lost more than 80% of their value. It would take 15 years for the Nasdaq to regain its peak, which it did on April 24, 2015.
Key Takeaways
- The dotcom bubble was a rapid rise in U.S. technology stock equity valuations fueled by investments in Internet-based companies in the late 1990s.
- The value of equity markets grew exponentially during the dotcom bubble, with the Nasdaq rising from under 1,000 to more than 5,000 between 1995 and 2000.
- Equities entered a bear market after the bubble burst in 2001.
- The Nasdaq, which rose five-fold between 1995 and 2000, saw an almost 77% drop, resulting in a loss of billions of dollars.
- The bubble also caused several Internet companies to go bust.
Understanding the Dotcom Bubble
The dotcom bubble, also known as the Internet bubble, grew out of a combination of the presence of speculative or fad-based investing, the abundance of venture capital funding for startups, and the failure of dotcoms to turn a profit. Investors poured money into Internet startups during the 1990s hoping they would one day become profitable. Many investors and venture capitalists abandoned a cautious approach for fear of not being able to cash in on the growing use of the Internet.
With capital markets throwing money at the sector,start-upswere in a race to quickly get big. Companies without any proprietary technology abandoned fiscal responsibility. They spent a fortune on marketing to establish brands that would set them apart from the competition. Some start-ups spent as much as 90% of their budget on advertising.
Speculative bubbles are notoriously hard to recognize while happening but seem obvious after they burst.
Record amounts of capital started flowing into theNasdaqin 1997. By 1999, 39% of all venture capital investments were going to Internet companies. That year, most of the 457 initial public offerings (IPOs) were related to Internet companies, followed by 91 in the first quarter of 2000 alone. The high-water mark was theAOL Time Warnermegamerger in Jan. 2000, which became the biggest merger failure in history.
The bubble ultimately burst, leaving many investors facing steep losses and several Internet companies going bust. Companies that famously survived the bubble include Amazon, eBay, and Priceline.
The dotcom bubble is but one of several asset bubbles that have appeared over the past centuries.
How the Dotcom Bubble Burst
The 1990s was a period of rapid technological advancement in many areas. But it was the commercialization of the Internet that led to the greatest expansion of capital growth the country ever saw. Although high-tech standard-bearers, such as Intel, Cisco, and Oracle, were driving organic growth in the technology sector, it was upstart dotcom companies that fueled the stock market surge that began in 1995.
The bubble that formed over the next five years was fed by cheap money, easy capital, market overconfidence, and pure speculation. Venture capitalists anxious to find the next big score freely invested in any company with a “.com” after its name. Valuations were based on earnings and profits that would not occur for several years if the business model actually worked, and investors were all too willing to overlook traditional fundamentals.
Companies that had yet to generate revenue, profits, and, in some cases, a finished product, went to market with IPOs that saw their stock prices triple and quadruple in one day, creating a feeding frenzy for investors.
The Nasdaq index peaked on March 10, 2000, at 5,048—nearly double over the prior year. Several of the leading high-tech companies, such as Dell and Cisco, placed huge sell orders on their stocks when the market peaked, sparking panic selling among investors. Within a few weeks, the stock market lost 10% of its value.
As investment capital began to dry up, so did the lifeblood of cash-strapped dotcom companies. Dotcom companies that reached market capitalizations in the hundreds of millions of dollars became worthless within a matter of months. By the end of 2001, a majority of publicly-traded dotcom companies folded, and trillions of dollars of investment capital evaporated.
How Long Did the Dotcom Bubble Last?
The dotcom bubble lasted about two years between 1998 and 2000. The time between 1995 and 1997 is considered to be the pre-bubble period when things started to heat up in the industry.
Why Did the Dotcom Bubble Burst?
The dotcom bubble burst when capital began to dry up. In the years preceding the bubble, record-low interest rates, the adoption of the Internet, and interest in technology companies allowed capital to flow freely, especially to startup companies that had no track record of success. Valuations rose and money eventually dried up. This led companies, many of which didn't even have a business plan or product, to collapse, causing the market to crash.
What Caused the Dotcom Crash?
The dotcom crash was triggered by the rise and fall of technology stocks. The growth of the Internet created a buzz among investors, who were quick to pour money into startup companies. These companies were able to raise enough money to go public without a business plan, product, or track record of profits. These companies quickly ran through their cash, which caused them to go under.
What Caused the 2000 Stock Market Crash?
The 2000 stock market crash was a direct result of the bursting of the dotcom bubble. It popped when a majority of the technology startups that raised money and went public folded when capital went dry.
The Bottom Line
When the Internet took off in the 1990s, many startups launched to make use of the new technology. These companies had high valuations with little to no profits, riding the wave and hype of the new tech. A booming equity market funded them in the 1990s, which came with cheap capital. When the money dried up, and these companies had no self-sustaining profits to continue operating, the crash finally came. For some companies, there was a brief period of price stabilization and increase, but these were short-lived. Most of these companies went bust.
