Many are calling this recent implosion of technology stocks the second coming of the dot-com crash of the early 2000s. And to be honest, there are legitimate reasons for the comparison.
Margin levels skyrocketed last year in a very similar fashion to what we saw in 1999, and recently, small-cap technology stocks have seen their prices tumble as much as 90%, not unlike two decades ago. If you lived through the internet bubble, there's likely a lot of emotional scar tissue still present that would lead you to believe it's all happening again.
The fear is understandable -- many new technology stocks in the early 2000s never recovered from the market's collapse. But while there are noticeable similarities, I see two really important differences that lead me to believe this crash will not play out the same way it did two decades ago.
Image Source: Getty Images.
The internet was uncharted territory in 2000
You may remember the comical "What is the internet anyway?" quote from Bryant Gumble on The Today Show in 1994.
That's sort of what the stock market was trying to answer in the years leading up to the bubble bursting in 2000. It was clear the internet was a big deal, but no one really understood how it was going to change society. The market was pricing dot-com stocks as if the internet's emergence had completely changed how the world would do business. As it turns out, the prediction was accurate, just not the timing.
Investor appetite for all things web-related led to thousands of new businesses popping up and going public as quickly as possible -- many with little to no plans for how they would make money. In fact, by 1999, a survey found that 1 in 12 Americans (or 8%) were in some stage of founding a business. For some context, in 2021 about five million Americans -- or 1.5% of the population -- applied to start businesses according to data reported by the White House.
In 2000, the internet was an exciting new technology that few understood. This led to an unbelievable amount of hype from investors, as well as founders starting companies with little to no underlying business models.
While you could make the argument that this has been unfolding with crypto recently, this is simply not the case with the broader stock market.
Tech companies today are much more profitable
The massive surge in investor demand for internet companies created a paradox for many start-ups. They realized they could simply spend their way to more funding (as opposed to, you know, actually selling something for a profit).
The name of the game was brand awareness. For example, six months after launching, online airfare marketplace Priceline.com (now called Booking Holdings) had already spent $20 million on advertising, all while losing money on every ticket it sold.
This massive ad spend was designed to capture as many internet eyeballs as possible. As these companies got more clicks, they would receive additional funding from venture capital (VC) firms. In other words, they were spending their way to higher valuations while often widening their loses. And the VC firms perpetuated this, because they were only concerned with securing profitable post-IPO exits (i.e., selling the stock for a gain once it went public).
When you look at technology stocks today, there is certainly some of that going on (see Rivian's pre-revenue IPO). But comparatively, growth stocks today are much more profitable than 20 years ago.
Amazon and Alphabet, arguably the most important survivors of the 2000 crash, were both wildly unprofitable in 1999. In 2021, on the other hand, these two companies accounted for a combined $93 billion in profits over the past year.
Data by YCharts.
And it's not just the industry giants that are making money. Zoom Communications, Veeva Systems, PubMatic, and Pinterest are all smaller tech companies generating real profits today (and there are countless others).
This is in stark contrast to 2000 when very few internet companies were making money.
You can't ignore the fundamentals
There's no doubt that over-speculation thanks to government stimulus and the pandemic caused valuations to reach ridiculous levels, but the fundamentals are different now than in 2000.
Internet companies filed for bankruptcy in the wake of the dot-com bubble, because they didn't have solid business models, just ideas. So when investor sentiment turned negative, these companies failed to secure the additional funding needed to keep their operations running and quickly became insolvent.
Today's technology companies are much more likely to offer real products and services that provide tangible value, and many of them are doing so at extremely high profit margins.
Image source: Getty Images
There will certainly be some companies that do not make it out of this bear market, but I do not see the widespread failure of tech companies playing out today as it did back then.
If that's the case, the profitable technology companies whose stocks have taken a beating this year could deliver excellent long-term returns for investors buying at today's prices.
