Jason Colodne, co-founder of Colbeck Capital Management, an NYC-based private equity asset firm focused on strategic lending, offers his take on what led up to the dot-com boom - and eventually brought it down.
Buoyed by widespread interest in computer, software, and internet-related innovation, the stock market experienced a robust period of growth in the late 1990s.
The tech investment boom, however - and its favorable effect on the U.S. economy - didn't last forever.
In the third quarter of 2001, the economy contracted; and what had, at the time, been the longest expansion period on record - lasting for 120 months, according to the National Bureau of Economic Research - ended, due to a variety of factors.
Tech's Rapid Rise
In the first half of the 1990s, the U.S. economy moved at a slower pace than toward the end of the decade.
Through approximately 1995, economic and employment-related growth were fairly lackluster; but, as the Economic Policy Institute has noted, employment and wage advancements occurred in the later portion of the decade-along with productivity growth that was driven by vigorous investment in emerging technologies.
Several elements drew investors to IT-related companies. Tech advancements such as a marked decrease in computer prices and wider internet accessibility, in tandem with economic aspects like greater financial liquidity and a decline in bank borrowing and mortgage interest rates, helped propel the internet and other sectors forward at a fast clip starting in the mid-1990s.
Stock prices also rose. The NASDAQ hit a record level in March 2000, which wasn't surpassed until 15 years later, in 2015.
IT investment growth showed a 24% per-year average from 1995 to 2000 and added more than three-quarters of a percentage point annually, on average, to GDP growth.
Between 1990 and 2000, nominal investment in IT goods transitioned from totaling less than a third of nonresidential equipment and software spending to comprising nearly 44% of it, a $270.1 billion increase.
Overall, listed domestic companies' market capitalization more than doubled between 1990 and 1995 and 1995 through 2000, according to World Bank data.
The buzzy heyday of tech investment interest, though, was approaching its peak by the end of the '90s. Betting big on the vast number of new tech companies' business models ultimately proved unsustainable, and the market's meteoric rise came to a crashing halt.
The dot-com era - sometimes also referred to as the dot-com boom or tech bubble - ended in spring 2000, destroying an estimated $4 to $6 trillion in shareholder wealth.
What Happened
In the years following the dot-com bubble burst, the downfall has been attributed to a number of factors.
In the 1990s, in the midst of stagnant wage and income growth, investment activity and private debt both increased, as debt was frequently used to finance investing.
The substantial increase in household debt that has played out in recent decades reportedly began in the late 1990s, according to research from the New America think tank, with household debt-to-GDP escalating nearly 50% through 2008.
The household debt-to-income level reached a new high, 132%, in 2007. Mortgage debt-to-income ratios rose from the 1990s through the housing crisis that occurred in the next decade.
Investment practices likely also played a role in the dot-com bust.
Stock options - which three-quarters of the members of the S&P 500 increasingly granted between 1994 and 1998 - were used as executive compensation during the decade, which Federal Reserve-published research suggests may have been an incentive for companies to try to circumvent paying dividends and maintain high stock prices.
Investors also seemed to have believed perhaps a bit too strongly in emerging tech companies' potential for ongoing returns during the dot-com bubble. In the frenzy to invest in reportedly hot tech-related stocks, some standard due diligence practices may have been skipped, according to The Balance website - such as examining companies' price-to-earnings ratio, which might have otherwise discouraged some investors from moving forward.
An analysis conducted by the global not-for-profit CFA Institute found more than half of the companies listed on the NASDAQ index had negative earnings and an invalid price-to-earnings ratio in 2000.
Rushing to market to capitalize on investor excitement in the sector meant some new internet-related offerings may not have had a fully baked business model. Extravagant spending also wasn't uncommon and sizable losses weren't, either.
Numerous dot-coms filed for bankruptcy as the bubble gave way to the dot-com bust. CNN reported at the time that IPO activity declined by more than 80%; companies going public had raised just $45.3 billion, compared to the $120.2 billion amassed by 450 organizations in 2000.
As the economy attempted to recover, the terrorist attacks on the World Trade Center occurred in September 2001, adding further uncertainty that undoubtedly had an influence on investor confidence.
In 2000 and 2001, the U.S. Federal Reserve lowered interest rates more than 10 times. In a February 2002 policy report, the Federal Reserve Board mentioned cuts had been made to provide support to consumer spending and the housing sector.
The board also said the devastating September 11 attacks had "further set back an already fragile economy" - including reducing the appetite for risk in financial markets, noting banks had continued to tighten loan terms and standards and stock prices had declined as earnings fell.
The Aftermath
At the height of the 1990s boom, investors may have believed modern technology had ushered in a new era of unlimited innovation opportunities and prosperity. Although that scenario may not have come to fruition, the economic challenges the U.S. faced after the dot-com bubble burst didn't prove to be permanent.
In the wake of the '90s, a number of companies shut down due to reduced investing and capital. Others, however, survived the dot-com bubble's demise and the subsequent brief recession the U.S. experienced.
The tech sector also survived. While jobs in high-tech industries in the Silicon Valley-region technology hub initially declined by roughly 17% from 2001 to 2008, average wages increased by almost 36%; in 2008, Silicon Valley high-tech industries produced $57.7 billion in average annual wages - nearly 14% more than the amount earned in 2001.
Tech stocks may not inspire quite the same fervor as they did during the dot-com-era highs, but they've remained solid performers over the years. Although the sector wasn't a top performer last month, it has generally flourished since late 2019 - and with future tech advancements like autonomous vehicles and more widespread 5G connectivity on the horizon, the interest in investing in tech companies stands to remain considerable.
About Colbeck Capital
Colbeck Capital Management is a leading, middle-market private credit manager focused on strategic lending. Colbeck partners with companies during periods of transition, providing creative capital solutions. Colbeck sponsors its portfolio companies through consistent engagement with management teams in areas such as finance, capital markets, and growth strategies, distinguishing itself from traditional lenders. Founded in 2009 by Jason Colodne and Jason Beckman, the principals have participated in over $22 billion of strategic investments and have extensive experience investing through market cycles at leading institutions such as Goldman Sachs, Morgan Stanley, Deutsche Bank, and Macquarie.
About Jason Colodne
Jason Colodne is the senior transaction partner at Colbeck Capital Management and oversees all aspects of investment execution and portfolio management. Colodne co-founded Colbeck Capital Management as a managing partner in 2009. Colodne's investment experience spans over two decades.
