A quarter of a century since the dot-com bubble. Have we learned our lesson?

When the Nasdaq Composite Index closed at 5,048.62 points on March 10, 2000, few expected it to reach that level again after fifteen long years. That day marked the peak of the technology bubble, followed by one of the biggest falls in the history of the US stock markets.

The rapid rise in the prices of selected technology stocks is beginning to remind some analysts of the situation at the turn of 1999 and 2000, when the Internet fever was at its peak, which eventually led to the bursting of the dot-com bubble and a significant fall in stock markets, led by the Nasdaq Composite technology index. It reached its peak before the bubble burst exactly 25 years ago, on 10 March 2000.

Several factors contributed to the bursting of the Internet bubble, including the spread of the Internet, the availability of investment capital, the willingness to invest in companies that were not making any profits, and the unprecedentedly long economic growth that led economists to believe in a new economy with no room for recessions.

How and why the bubble was created

The conditions for the Internet bubble began to take shape in the early 1990s, when the Internet began to expand quite rapidly, so that it was no longer the domain of scientists alone, but could be accessed by an increasing number of households. By 1996, according to the US Department of Commerce, Internet use was set to double every three months, so that by 2000, Internet business was already in the hundreds of billions of dollars. Unfortunately, in reality, Internet use doubled perhaps once a year, but investment in networks and infrastructure corresponded to the much faster growth of the Internet.

Economic conditions also favoured rapid development. After the last brief recession in the early 1990s, economic growth picked up a lot in the mid-1990s, and the economy was shifting from industrial to technological. Labour productivity was rising rapidly, unemployment was low and inflation was falling. In the late 1990s, there was increasing speculation that we were living in a "new economy". The development of technology, which was supposed to have a positive effect on economic growth, was supposed to ensure steady growth without recessions. Investment was also helped by low interest rates and a reduction in capital gains tax from 28% to 20%.

Irrational exuberance

The beginning of the Internet bubble is generally considered to be August 1995, when Netscape Communications made an IPO of its stock, with the share price rising from an initial $28 to $75 within the first day, closing at $58.25. The possibility of a market bubble had already been raised in late 1996 by then US central bank chief Alan Greenspan in a speech at the American Enterprise Institute, when he used the now legendary phrase "irrational exuberance". Despite the market decline on the second day of the conference, however, the rise was only at the beginning.

In the years that followed, investment in technology companies literally blew up, and anyone who did not have money in technology was as good as gone. Virtually any company that had anything to do with the Internet was guaranteed to have a lot of interest in its stock. Even though most of them were just star-ups, investors weren't looking at the fundamentals and financial health of the companies, but rather how many new customers the company would get in the future.

Companies were not generating profits, so they needed investment, and going public was often the ideal way for them to raise funds. Most of the new IPOs in the US markets before 1999 were Internet companies, and in the first quarter of 2000 alone, when the bubble was already at its peak, 91 IPOs were added to the market. Nearly 40% of venture capital at that time went to Internet companies.

Hundreds of percent per year

The Internet fever peaked in 1999, but the market situation was already alarming from today's point of view and many economists and analysts had already warned of a possible bubble. Qualcomm's shares rose 2,619% in one year, with as many as 20 major companies appreciating over 900% that year. VA Linux Systems listed its stock at $30 per share in December 1999, climbing as high as $299 on the first day, and eventually closing with a 698% gain on the day at $239 per share. While it is true that the two companies mentioned still exist today, most of the companies that generated incredible profits for their shareholders eventually ended up in oblivion.

The rise in the share prices of technology companies led to a rapid appreciation of the Nasdaq Composite technology index, which reached its intraday high of 5,132.52 points on 10 March 2000 and eventually closed at 5,048.62 points. Since the beginning of 1995, the index has risen by more than 570 %. In 1999 alone, the index added over 85%. However, the subsequent decline was equally rapid.

The beginning of the end

In the early 2000s, the US Fed, led by Greenspan, decided to raise interest rates quite significantly to prevent inflation from rising, which had a rather negative impact on markets and investment. The negative mood on the markets was also fuelled by a court decision that Microsoft was behaving like a monopoly in the field of operating systems and internet browsers, thereby harming competition.

Another piece of bad news was the recession in Japan, which raised fears of a fall in demand and earnings, particularly for technology companies, whose strong market was Japan. Another piece of bad news was the failure of the plan to merge eBay and Yahoo. Investors increasingly began to realise that numerous technology companies were unable to realise profits and over the following months several large companies operating in this segment, such as Pets.com, Boo.com, WorldCom etc., collapsed. Some of the large firms that were able to generate profits did continue, but their share price lost significantly in the following months.

Back in 15 years

The Nasdaq index thus reached its peak on 10 March 2000 at the aforementioned value of 5,048.62 points, and then the decline began. All of the above factors gradually led to a panic sell-off, from which the Nasdaq index was unable to recover for a long time and reached its bottom on 10 October 2002 at 1,108.49 points. As late as May 2007, it was still at half the level of March 2000, and as the financial crisis hit in 2009, which meant a further fall, it did not recover to the level of March 2000 until 23 April 2015, when it closed at 5,056.06 points.

Most of today's young traders probably do not remember the Nasdaq Composite's decline in 2000, but those who do remember that period may find some parallels with today's development and growth in the shares of AI companies. The big boom around AI has not yet forced investors to buy shares of worthless companies to feed on the investment appetite of unsophisticated investors. But a dose of patience, especially in these times when a possible trade war (not to mention actual conflicts in Ukraine and the Middle East) could give many optimists a headache in the markets, is certainly in place. Trade safely!