The Hindu Business Line : Some lessons from the dotcom crash

All said and done, when it comes to the stock market, it is the dotcom bubble that burst at the beginning of the new millennium that springs to mind. This fall did drive home an important tenet — valuations always matter, no matter how fancy a sector or overrated its prospects.

The latter part of the 1990s saw a rising investor fancy for any business remotely related to ‘Internet’ and ‘computers’. Business model, sustainability, cash flows — all important inputs to a stock’s valuation — were ignored, in favour of the idea that Internet and dotcom related companies would overshadow all others in the years ahead.

Speculation, novelty and availability of venture funding all took stock prices to great heights. Companies in the early stages of their business, with very little visibility on how they would generate profits, resorted to raising money from the public at highly-priced IPOs.

In March 2000, the US Nasdaq index (comprising purely technology stocks) peaked at about 5048 points, more than double its value of a year earlier. In the following week, the Nasdaq fell nearly 9 per cent, presaging the first signs of the dotcom crash. The passage of Y2K, seen as an inflection point for these companies, and worries about revenues tapering off, were the first triggers to the fall.

As doubts about the dotcom business model surfaced and sources of funds dried up, dotcom companies fell like nine pins, burdened by high debt and poor cash flows. Between March 2000 and October 2002, this crash is reported to have wiped out $5 trillion in the market value of tech companies in the US. The Indian market too played out its own version of the tech bubble in the same period. In 1999, PE multiples of technology companies were bid up to triple digits on expectations of manifold growth in earnings over the next few years, even as the “old economy” stocks hovered at miserly valuations.

The worldwide crash in tech companies precipitated the inflection point in the bubble, making for the worst domestic stock market crash in recent history. That record, however, has recently been broken by the ongoing market meltdown!

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