Dot-com Bubble

Dot-com bubble meaning

What is the meaning of the dot-com bubble?

Dot-com bubble summary

The emergence of the dot-com bubble can be traced to the introduction of the World Wide Web in 1989, which led to the establishment of the internet and its technology companies in the 1990s. The upswing in the market and the change in interest in the new internet industry, media attention and investor speculation on profits from companies with a '.com’ domain in their internet address acted as the triggers for this market change.

At that time, these internet-based companies experienced exponential growth in their stock prices of over 400%. Figure 1 below shows the growth of the NASDAQ from 1997 to 2002 when the bubble burst.

Figure 1. NASDAQ Composite Index during the dot-com bubble. Created with data from Macrotrends - StudySmarter Originals

The NASDAQ saw a steady increase in its value during the 1990s, peaking at nearly $8,000 in 2000. However, the bubble burst in 2002, and stock prices fell 78%. As a result of this crash, many of these companies suffered and the US economy was hit hard.

Dot-com bubble effects on the economy

The impact of the dot-com bubble on the economy was quite severe. Not only did it lead to a mild recession, but it also shook confidence in the new internet industry. It went so far that even larger and more successful companies were affected.

Some of the effects of this bubble were on:

• Investing: the dot-com bubble had a greater impact on investors than on the actual companies in the internet industry. The New York Times reported about 48% of dot-com firms survived the crash, although most lost a significant amount of their value.
• Bankruptcy: the bursting of the dot-com bubble led to bankruptcy for several companies. One example is WorldCom, which admitted to billions of dollars in accounting errors, leading to a dramatic drop in its stock price.
• Capital spending: while investment spending increased, savings shrank while household borrowing increased. These savings were so low that they were insufficient to cover the cost of the factors of production required to meet initial investment needs.

Dot-com boom years: stock market during the dot-com bubble

How did the dot-com bubble happen? What happened to the stock market during the dot-com bubble? The bubble timeline in the table below gives us the answers.

Dot-com bubble crisis

After investors flocked to the Internet industry in hopes of earning huge returns and experiencing an immense rise in stock prices, the day came when the high ended and the bubble burst. Thus came the dot-com bubble crisis, also known as the dot-com bubble burst.One company after another imploded, leading to a free fall in internet industry stock prices that lasted for two and a half years. The impact of the dot-com bubble was so great that its bursting in 2000 led to the stock market crash.

What caused the dot-com bubble to crash?

We have looked at the timing of the crash and the impact on the economy. But what was the main reason that led to the bubble in the first place?

The internet

The hype surrounding a new invention – the internet – triggered the dot-com bubble. Although the internet had already emerged before the 1990s, it was only later that several tech startups began using the “.com” domain to participate in the new market. However, in the absence of sufficient business planning and cash flow generation, many companies couldn’t keep up and survive.

Speculation

The market scene in 1995 had already begun to feel futuristic, and computers, initially considered a luxury, were becoming an occupational necessity. As soon as venture capitalists noticed this change, investors and companies began to speculate.

Investor hype and overvaluation

The most apparent cause of the dot-com bubble bursting was, among other things, excessive hype. Investors saw an opportunity to make quick profits and jumped at the idea. They encouraged others to join them while hyping up dot-com companies and overvaluing them.

Media

At the time, the media had also done its part to encourage investors and companies in this industry to take on risky stocks by spreading overly optimistic expectations of future profits, especially with the mantra of ‘getting big fast’. Business publications such as Forbes, Wall Street Journal, and others contributed to their ‘campaigns’ to drive demand and inflate the bubble.

Other causes

Other causes that were evident in the behaviour of investors and companies were: investors’ fear of missing out, overconfidence in the profitability of technology companies, and the abundance of venture capital for startups.One of the main reasons for the crash was the fluctuation of technology stocks. Although investors were eager to bring in their profits, they made no proper plans regarding business, products, or track record of earnings. They had nothing left after they used up all their cash, and their companies crashed. Only about one in two businesses ended up surviving.Among the companies that failed due to the dot-com bubble burst in the stock market crash - were Pets.com, Webvan.com, eToys.com, Flooz.com, theGlobe.com. One thing these companies had in common was that although some of them had really good concepts and could have worked in today’s modern age, they were not well thought out and were rather focused on simply being part of the ‘.com’ era.Amazon was one of the companies that managed to survive the dot-com bubble bursting, along with others like eBay and Priceline. Today, Amazon, founded by Jeff Bezos in 1994, is one of the largest online retail and commerce platforms globally, while eBay, founded in 1995, is now the most popular online auction and retail company in the world. On the other hand, Priceline is known for its discount travel website (Priceline.com), founded in 1998. All three are doing well today and have a significant market share.