Dotcom Bubble Of 2000

What Is The Dotcom Bubble Of 2000?

The "dotcom" bubble refers to the rapid rise and subsequent freefall in the price of internet stocks and the broader NASDAQ market that took place in the late 1990s. The collapse in 2000 prefigured the overall sharp drop in stock prices and the recession that followed, exacerbated by the terrorist attacks on 11th September 2001.^[1]

NASDAQ, which to this day is heavily weighted with technology and internet stocks, jumped nearly seven-fold, from 750 at the beginning of 1995 to a then-peak of 5132 on 6 March 2000, after which the index plunged more than 76% to 1199 in September 2002. It would take another 15.5 years, until July 2015, for the index to reach that lofty level again.^[2]

More or less in tandem, the S&P 500 had more than tripled from about 447 in late 1994 to a then-peak of about 1500 in April 2000 before plunging nearly 50%. It would later bottom out at about 800 in September 2002.^[3]

Investor Frenzy Feeds The Bubble

The bubble was driven by investor frenzy to buy up the stocks of just about any company that promised or purported to sell anything on the internet, which was then in its infancy. Also, more and more people were gaining access to the web at the time as well. As a point of reference, Amazon, the most successful internet retailer of all time, opened for business on 16 July 1995.^[4]

Many other companies jumped on the bandwagon, whether they were ready or not. Investors piled on blindly, assuming that any company with aspirations to sell anything on the internet was minting gold. To take advantage of investor interest, many companies with even limited internet aspirations added a ".com" to the end of their names in order to generate excitement.^[1]

However, many of these companies quickly failed and became the victims of hype, poor business plans, and lack of sales and profits. Many of them were simply ahead of their time. In due time, more and more people would be able to access the internet, and more and more companies would master the art of selling remotely and shipping their goods to customers.

Perhaps the poster child and most memorable example of the frenzy was Pets.com, which wanted to sell pet food and supplies over the internet but did little market research before launch. It crashed in November 2000 after burning through $300 million in less than two years. Its infamous "sock puppet" marketing mascot quickly became a source of ridicule.

To further illustrate how quickly the bubble expanded and then popped, 17 dotcom companies ran television commercials during the 2000 Super Bowl. The following year, only three did, primarily because many of them had failed in the meantime.^[6]

The Federal Reserve's Role

Investor speculation over the "next big thing" and marketing hype were the principal causes of the bubble growing and then collapsing, but the U.S. Federal Reserve has also received a share of the blame.

During the late 1990s, the Fed eased monetary policy, increased the money supply by 22%, and lowered interest rates to then-historic lows. The goal was to fend off any potential economic and financial impact resulting from Y2K, the transition of the world's computers to the new millennium. Investors and dotcoms availed themselves of this easy money, which further inflated the bubble.^[7]

When the Fed subsequently tightened monetary policy and raised interest rates, that was enough to take the air out of the bubble and investors rushed to the exits. And as often happens in financial panics, selling simply fed on itself.^[7]

Alan Greenspan, the Fed chair at the time, had warned in a speech as early as December 1996 about "irrational exuberance" that was inflating the price of internet stocks.^[8] Yet investors largely ignored the warning and the Fed took no action to try to let some of the air out of the bubble until four years later.

Summary

The "dotcom" bubble refers to the rise and subsequent fall in the price of internet stocks in the late 1990s. Between 1995 and March 2000, the NASDAQ index soared more than 600% before plunging more than 76% over the next year and a half. The buying was stoked by what then-Federal Reserve Chair Alan Greenspan called "irrational exuberance" by investors in any company that hoped to sell anything on the internet, which was in its infancy.

The Fed itself has been blamed for inflating the bubble with its easy monetary policies in the late 1990s. The eventual collapse in stock prices was one of the causes of the economic recession that followed in 2001.