Can you describe the sense of exuberance in the period leading up to 10 March 2000?
- The phrase ‘irrational exuberance' was coined to describe the market environment during the late 1990's/early 2000. It is certainly my prevailing memory of the period as technology and tech-related stock prices surged ever-higher, confounding expectations - just before it all came crashing down.
- Investor enthusiasm for technology stocks rapidly gained momentum in the late 1990s. Fueled by speculation about the ‘unlimited potential' offered by the internet, and the prospect of significant share price gains, investors were captivated. It didn't seem to matter that many of these companies had never made a profit, nor had a credible plan to ever become profitable. Many were also run by young entrepreneurs with little managerial experience. Yet, each new tech-oriented IPO seemed to have little trouble raising capital.
- The media also played a big part. Even as valuations became detached from any rational financial underpinning, or historical norms, the media hype continued. Commentators suggested that these companies were re-writing the rules of business.
- With money flowing into tech-focused passive strategies, stock valuations became significantly inflated. Many growth-oriented funds in our peer group also became increasingly concentrated as they responded with greater allocations to the expanding tech sector weightings in most growth indexes.
What was your thinking during this period, did you share in the dotcom optimism, or were you more pessimistic?
- We were generally underweight technology sector companies during this period. Even early on, many companies in the universe simply lacked the kind of fundamental support we look for. Our negative view became more resolute as investor optimism became increasingly extreme and valuations ballooned to irrational levels.
- That is not to say that we didn't question our positioning throughout the period. Our contrarian stance, amid an almost universal tide of opposing sentiment was difficult, particularly when the result was to increasingly underperform the market. The longer the boom progressed, and the higher stock prices rose, the more we doubled down on our research, revisiting our investment theses to ensure we weren't missing something.
- Had we found technology companies that met our quality and growth criteria, we would have certainly considered investing. However, whichever way we looked at it, the valuations that many of these companies were commanding, particularly new, untested businesses, seemed unjustifiable
- We aim to invest in high-quality growth companies that can sustainably compound earnings over time, generate durable free cashflow growth, and have strong management teams that know how to allocate capital. The technology companies of the dotcom period typically fell well short of these key characteristics. an investment cycle. And at such times, we could experience a pause, or even a correction, in the market. However, we see few parallels today with the irrational sentiment and blind optimism characteristic of the dotcom boom.Instead, we were often faced with untested business models, inexperienced management and a lack of profits or cashflows. Not only did they seem poor investments, they appeared to be among the riskiest and most over-priced companies in the market.
- The media compounded the pressure we felt at the time, with periodic reports criticizing our investment approach, our ‘misplaced' conviction, and, of course, our underperformance. This headline appeared in the national press on March 6, 2000, just days before the dot com bubble burst. Ultimately, it paid to have the courage of our convictions!
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