2000 Tech Bubble and Stock Crash, Causes and Lessons
Learn the history of the 2000 stock market crash, when technology stocks declined 83%. Also, learn the causes of the crash and the lessons it left us with.
The “Tech bubble” and resulting stock market crash, which began in 2000 and continued until 2002, is also known as the Dotcom bubble, Dotcom crash, Dotcom boom, internet bubble, and 2000 stock crash.
Like all major crashes, prices first rose then fell. Prices were already rising in the mid to late-90’s, but buying accelerated in late 1998. The upward trajectory remained in place through 1999, with a sharp rising occurring late in the year. The buying continued into early 2000, when the Nasdaq 100 index peaked at 4816.35 in March.
By May, the index collapsed to a low of 2897.27, a decline of 39.8%. The index remained above that low until November yet was never able to get close to the former high. In November the technology-heavy index broke below the May low and continued to slide lower. While there were intermittent bounces higher in price, ultimately the index continued dropping until hitting a low 795.25 in October of 2002. A decline of 83%.
That low has not been seen since. The price rallied from that point onward, with the next peak occurring at 2239.23 prior to the 2008 crash.
It took more than 16 years, not until mid-2016, for the Nasdaq 100 to exceed the March 2000 highs.
What drove the stock market higher, and in particular the tech stocks that everyone was so eager to own, is well documented and isn’t complex to understand. Internet-based companies were popping up all over the place, and investors viewed the internet as a new frontier–a game changer–where old rules of investing didn’t apply. No need to analyze a trade, just buy! The prevailing belief was that companies could continue to grow profits via the ever-expanding reach of the internet and the increased efficiency it (potentially) provided.
Many of these companies had no earnings, and barely even a business model. Many investors mistakenly assumed that didn’t matter. As prices moved higher it attracted more people into the buying frenzy. Many of these buyers likely didn’t even care what they were buying. They just knew that prices were soaring, people were getting rich, and they wanted to be involved.
Most of the people who joined in on the buying frenzy were wiped out in the decline that followed, as the Nasdaq 100 fell all the way back to where it traded in 1997.
The technology bubble provides us with some important investing lessons.
The first lesson is that even buying a large basket of stocks, like an index, can carry significant risks. For many people who bought technology stocks, even a large basket of them, most of their capital was wiped out in the 2000 crash. Those that did hold on had to wait more than 16 years (give or take several years, depending on when they initially bought) to start seeing profits again. That is a long time to hold a losing trade.
Most professional traders cut losses quickly because they don’t want to be stuck in a poor performing asset for years. Have a personal risk tolerance. Set a limit for who much you are willing to lose on a poor-performing investment. Holding poor-performing stocks is a double whammy in that not only has the asset lost money, but it also costs time since that money could be doing something more productive…even sitting in a bank making 1%.
Long droughts in the stock market aren’t only related to speculative areas like technology stocks (these are no longer speculative, but were at the time of the crash). Following the 1929 crash, which affected all stocks even those that were very solid and financially sound, it took 25 years for the major index to get back to where it traded in 1929.
The people who sold early and then bought back at much lower prices were far better off than the people who held through the entire collapse and rebound. Same with tech stocks. Looking at the chart above, selling meant you had money left to buy later on, and participate in the recovery which saw prices rise more than 800% off the 2002 low and more than 550% off the 2008 low. Compare that to holding and breaking even after 16 years.
The second main lesson is that as of yet there has not been a market that did not collapse at least temporarily after rampant buying. When making money gets a little too easy, that is usually a sign the market is near a top. When loads of companies with no earnings are being bought up significantly, that is also a warning sign. When a large number of solid companies, with a strong financial position, are being pushed up to prices of greater than 20x corporate earnings, that has also been an issue for stocks as a whole. During the technology bubble, the less speculative and more diversified S&P 500 index was trading at more than 40x earnings. It is a sign they have become too expensive and will eventually correct. This phenomenon is discussed at greater length in 1987 Stock Market Crash, History and Lessons.
Stocks as a whole do tend to rise over time, but this is partially due to survivorship bias. When you see an index rising, it only includes the stocks that have survived and thrived. The indexes you hear about the news, like the Dow Jones Industrial or S&P 500, don’t contain stocks that are doing poorly or went bust. The indexes regularly change to include only the best. As an individual investor, this can be misleading. It may lead someone to believe that just holding onto a losing stock is the best strategy. In some cases it may be, if it is a strong company and you paid a fair price for it, but in other cases, it is quite possible that stock will never get back to where it was, or it could take too long to do so. Know where your exit point is. The indexes don’t remember the thousands of companies that go bust…only the people who were in them do.
Articles On Other Stock Market Crashes
2010 Flash Crash – One of the largest intraday swings (difference between daily high and daily low) ever recorded at 101.79 points, or 9.55%.
2015 Flash Crash – On Monday August 24, within the first few minutes of trading the major indexes plummeted more than 5% within minutes.
By Cory Mitchell, CMT
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