The Dot Com Bubble – The Infamous Economic Meltdown

The end of the 20th century marked one of the largest economic crises the United States has faced, the 2000 Dot Com bubble is probably rarely mentioned when we talk about a nationwide recession that shaped the way how today’s corporations work.

Who thought the introduction of the internet would be such a curse, up to 10,000 companies found ground due to the internet, and half of them were wiped in one night.

Let’s take a look at the events that shook the US economy, dragged it to the lowest end, and ditched around $5 trillions in vain.

Leading Up To The Dot Com Bubble

The beginning of the 1990s was the time the internet moved from businesses and IT developers to the public, and more people started to use the internet regardless of their occupations.

The emergence of web browsers between 1990 and 1993 such as ViolaWWW, Erwise, and the most famous Mosaic managed to increase the internet accessibility for US households from 15% to 35%.

Blowing Into The Bubble

The new regulations passed by the US government were a major factor in blowing more air into the bubble. As the interest rates and the tax rates decreased dramatically.

As the interest rates dropped from 8.10% to 5.83% and the tax rates decreased from 7.82% to 5.48% which motivated businesses to take extensive loans to finance their marketing campaigns regardless of any proper planning.

Back then, the race was not for who will achieve more on returns, but who will market their product more and who will place their products everywhere to be seen by consumers.

The crazy marketing spending reached its peak when a company called Priceline spent around $20 million for its marketing campaign within the first six months of its existence.

Investing In Every Dot Com company

It was estimated that the internet sector witnessed a growth of over 1000% over its public equity, and 20% of the total publicly traded equity in the United States was for DotCom companies.

With a huge movement of people leaving their full-time jobs to start their own business and promote it online. Investors were on the move to invest in every company that ended with (.com) regardless if it was small or big, or whether it had a proper returns-on-investments plan or not.

By 1999, It was estimated that 39% of all venture capital investments were going for internet-based companies, and this bubble never seemed to settle. 

Boosting The NASDAQ Composite

The massive stampede motivated every other company to join the race to promote their services online, in order to reach as many customers as possible.

More companies released their stocks publicly to attract more and more investors, and in the year 1999 alone, 292 from the 457 (IPOs) were related to Internet companies that raised 24.1 billion USD in total.

This movement stimulated a spark in the NASDAQ composite index that was mainly comprised of tech companies, as the Index rose from less than 1,000 in 1995 to a peak of 5,408 on March 10, 2000. Attaining a 400% increase in the index value.

Massive Growth Coefficients

In this period, companies saw immense growth in their market capitalization and stock price, we take a look at some highlights:

Pet.com released its stocks publicly and raised $82.5 million in market capitalization, before spending a record $1.2 million on super bowl ads in the same month February of 2000

Qualcomm Inc.’s stock price increased by 2,619% from its IPO price, and peaked at $99 by the end of 1999, marking a 40% increase in value during one week.

Netscape’s stock price soared on the first day of trading, from $14 to $58.25, as the company secured a market value of $2.9 billion.

Interactive Intelligence raised $29 million from the first day of trading as its stock price jumped 141% on the first day.

Razorfish company that entered the stock market, doubled its stock price in one day and raised $48 million in market capitalization.

However, the former two companies ran out of business very soon due to the lack of planning, as they released their stocks publicly without having finished products or plans.

This unprecedented growth was surrounded by overvaluation because most of these companies could not generate profits that meet this value. Some studies showed that 40% of the companies in the era of the dot com were overvalued.

How Did The Bubble Burst

The continuous climb for tech companies was coming to an end when investors started running out of money, and when the investments did not have enough return to keep the spending.

The year 2000 problem and the infamous computer glitch halted many businesses as companies feared what would happen when the last digits of the changed from ‘99 to ‘00.

Finally, Federal interest and tax rates increase was the final straw, and many believe the newly introduced interest regulations was the main reason for the bubble to burst.

At that point, economic experts were not in doubt about the existence of the bubble, however, the question was when will the bubble pop.

The Y2K Problem

The economic madness was accompanied by technical glitch potential, a glitch that was feared to flip the world upside down, and many even started speaking about the end of the world.

The computer devices and machines were all programmed to record the dates by the last two digits, which directly referred to the 1900s.

As the end of 1999 was approaching, people had no idea how computer systems would read the last two digits of the year when it would turn from “99” to “00”, and many believed a glitch would appear because computers might confuse the years 1900 and 2000.

Since all the banking systems, security systems, flight movements, national defense, nuclear reactors, and other crucial systems were and are computerized, a major malfunction was anticipated as soon as the clock ticked beyond 23:59:59. 

This panic led to nothing but economic skepticism, everyone started withdrawing their money from the banks, selling their investment and financial market positions, hold as much cash flow as possible waiting for the unknown.

But, nothing major has happened, the world did not explode, only minor malfunctions happened in different parts of the world, such as bus ticketing systems, ATMs in some countries, and official timers in others.

The only noticeable effect this problem had was that the world spent $308 billion to get ready for this glitch, by updating the programs and systems, which indeed had a good outcome, since many companies improved their system performance and cyber security.

Japan Going Into Recession

the Japanese peninsula was sinking into its lost decade, experiencing a similar bubble on a different timeline.

At the beginning of 1980, the government of Japan started to lower the interest rates from 12.5% to as low as 8%, and 4 years later to 6%, which motivated people and businesses to take more loans and invest in financial markets and stocks.

In Oct 1987, exactly on Black Friday, the BoJ lowered the interest rates again to approximately 3%, heating up the financial markets and the growth in the country that spiked in 1988 to 6.8%.

The new governor of the Bank of Japan decided to slow down the booming economy, to avoid overheating, and increased the interest rates to 8% in 1991.

This demotivated everyone in Japan to invest, and as a result, the prices of real estate and equity dropped by 60% of their peak price, paving the road to an economic recession in Japan.

Japan was a crucial trading partner for the United States in terms of tech development and tech devices, and economic recession in Japan means fewer imports for Japanese semiconductors and Japanese computer parts.

Which has created a sense of fear for US manufacturers like IBM, DELL, and Intel who rely on Japanese imported semiconductors and semi-finished goods, which will affect the production and sales for US tech companies.

Reality Revealed

Investors who spent hugely on Dot Com companies realized that they are not receiving any profit from their investments, and started to revise their plans.

To showcase how bad most internet companies were performing, a study on 199 publicly traded companies revealed that by the third quarter of 1999, these companies were valued at $450 billion, while their annual sales returns were $21 billion collectively.

Moreover, in a profit and loss study over these 199 companies, they were running on a net loss of $6.2 billion. Meaning that all the money spent by investors was purely dumped in vain.

Bursting The Bubble

Many believe that March 20th 2000 was when the bubble officially popped, right after the NASDAQ composite reached its peak of 5,408 points. 

The same month when a publishing house called Barron’s, published a newspaper titled “Burning Up; Warning: Internet companies are running out of cash—fast”. Sparking a mass panic and the start of the downfall of the economy.

Increasing The Interest Rates

The interest rates rose from 5.8% to 6.3%, the prime rate charged by commercial banks jumped from 8.8% to 9.2% and the income tax also jumped 5.5% to almost 6%. This change in fiscal policy was believed to be the needle that popped the bubble.

It was motivated by the attempt to curb the economic mess happening in the US, to put limits on heavy borrowing, and to strengthen the banks.

The Beginning Of The End

March 10, 2000, is considered as the official date of the bubble pop, the same date when the NASDAQ index price peaked to 5,408, putting an end to the ongoing price increase from 1995 to 2000 by 400%.

After the peak price, the NASDAQ index price went down 8% during the first week only. And by the end of May 2000, it plummeted another 40%.

After increasing the interest rates, it was ineffective for investors to take loans because they cost more, and the ventures where they invested were not profitable enough to pay back older loans even.

Add to that, the changes in the income tax rates, demotivated most investors since their revenues were subject to a higher tax rate.

The internet companies that were so much hyped two years earlier, started to reveal their flaws and quickly started running out of business.

Pets.com had a very short life span, released its first IPO in February 2000, and ran out of business 9 months later, ditching a market value of $1.75 billion.

Qualcomm Inc. was one of the most heated companies back then, losing 10% of its stock price just by the first day of the year 2000.

After a record number of IPOs in 1999 and 2000, 446 and 333 respectively, 2001 saw only 78 IPOs. with a decreasing market value of -88% compared with the previous year.

Moreover, the terrorist attacks of 9/11 worsened the situation, because bombing the world trade center had paralyzed the trading activities in the United States for four days.

By the end of 2002, it was estimated that investors lost in Dot Com companies around $5 trillion.

Survivors

Even today’s giant corporations such as Yahoo, Amazon, and eBay for example, faced adversity when the bubble popped, and we look at some of these survivors.

Amazon lost 85% of its stock price, dropping from $106 to $15

Yahoo lost 79% of its stock price during the recession from $118 to $24.

eBay has also experienced the same, its stock price dropped down 77% by the end of 2000

Priceline.com was also one of the companies that got hardly hit by the economic crisis, their stock price that peaked at $575 in March 2000, snowballed to $9 by the end of the same year.

The Aftermath

By 2004, only around 40% of the dot com companies survived the crash.

Around 5 million jobs were lost all around the US as a result of this market meltdown, while silicon valley lost around 140,000 jobs and the unemployment rate increased by 25% in the tech sector, which was the most affected sector.

The newly elected US President George W. Bush introduced new tax and interest rates regulations, to mitigate the damages of the crash.

The new tax changes laws passed in 2001 and in 2003 were intended to decrease the tax rates for almost all the taxpayers in the United States, depending on the income bracket they fall into.

In 2001 there were lower income tax rates by 3-4% on every income bracket, as well as creating a new income tax bracket up to $6,000 with a tax rate of 10%.

Capital gain tax rates were changed also, those who were in the 15% income bracket, got their tax rate lowered to 8-10%.

This is besides other reforms on the education savings incentives and real estate tax rule.

2003 witnessed another tax cut down on capital gains. These changes were expected to create more jobs and improve the wellbeing of US citizens and businesses that were slammed by the recession after the dot com bubble.