It all started during the mid 1990′s. The Stock Market soared on technology and Internet stocks, IPOs were all the rage, and the sky was the limit for stock prices. The masses believed there was a new world upon us, and the internet was to become the future of business. Then reality set in when the hype didn’t live up to it’s promises, and the stock market crashed. If you take all of this for only its face value, all you see is what happens when a stock market gets overvalued and crashes, but if you look deeper you can find plenty of timeless lessons that every investor should learn. Here’s a few lessons that can be gathered from the Dot-Com bubble:
Fundamentals Don’t Lie
The fundamentals of the Dot-com bubble were horrible, most new public companies weren’t profitable and some had no intention of ever making a profit. IPOs were going sky high while the business model itself showed no realistic way to turn a profit. These big warnings are known as red flags, and they were everywhere during the dot-com bubble. The educated investors and professionals in the stock market saw these red flags and knew that a crash was coming, and that’s why they were successful during the Dot-com bubble. The rest were left to fight to sell their rapidly devaluing stocks.
Lesson learned: If you are investing in the stock market for the long term, don’t invest when prices are overvalued and fundamentals are poor. The combination of these two problems are practically begging for an eventual stock market crash if things don’t turn around. You want to invest when you see nothing but green flags, not red.
Trading stock market momentum is fine, but always remember it’s just momentum!
The stock market rallied during the dot-com bubble for good reason: everyone and their grandma was excited about Internet based companies. The overall investor’s belief was optimistic and this fueled a multi-year rally that had seemingly endless momentum. But as we just learned, the fundamentals were garbage and when the momentum died, the party was over and the stock market crashed.
Lesson learned: If trading/short-term investing is your thing, then get your profit and get out. Don’t get caught up in how much higher your stocks can go, just sell them when you believe it’s time to get out. When the reality of overbought stocks comes into realization, you want to be the guy with all of your stock sold, not the guy caught off guard while panicking about what you should do.
Life-Altering Changes Don’t Happen Overnight
The optimism for the Dot-com bubble was supported by the belief that internet business was somehow going to instantly take off and going to retail stores would be a thing of the past. Huge issues such as customers having to pay heavy shipping fees were regarded as not important, and the stock market rallied while believing that we’d all be buying our groceries online and ordering our pizza from a .com site. The problem was that none of this was actually occurring, and it was really just wishful thinking since most companies had no realistic business model to get these society changing ideas off the ground.
Lesson learned: The internet was invented in the 1950′s; It didn’t become popular until the 1990′s. When a company or many companies are promising life-altering changes in how we live our lives, be very skeptical. Even if these ideas for change are realistic, they don’t happen overnight, in most cases they don’t happen for decades!