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“Tech Crash Echo”: It’s Beginning To Feel A Bit Like 2000

Everyone in the market remembers the Global Financial Crisis.  Very few on trading desks remember the Tech crash of 2000.  I remember it all too well after the partying of 1999: it was exhilarating (or painful if you were short) to watch the exponential rally in Tech and dotcom stocks in the last part of the 1990s.

Then sentiment switched from “buy everything”, to “sell everything” almost overnight. In a span of a few weeks in 2000 the Tech sector came crashing down, hard. From the peak in the NASDAQ in the middle of March 2000 to the low in December 2000 the sector lost 50% in a brutal selloff.

Some of today’s Tech champions were around then as well.  Amazon.com (then and now one of my favorite companies in the world for making shopping easy for those of us who hate to go to the store) reached a peak of over $100 at the end of December 1999, and by December 2001 was trading right around $10, a 90% “correction”! Today’s darling, Apple (and another one of my favorite companies in the world in terms of their absolutely wonderful products), reached a peak of $4.50 in April of 2000, and by the end of the year was trading below the buck.  Caveat Emptor: Great products don’t imply that the stock is always cheap.

While it might be laughable to call for a correction of the same magnitude today, a few grey souls in the Tech industry who were around in 2000 and lost 80% of their net worth on paper have the following advice: don’t be greedy and take some gains off the table. So with an eye towards preserving capital let us look at some parallels between 2000 and today and see what rhymes and what doesn’t.

The Fed: Between June of 1999 and June of 2000 the Fed Funds target rate was raised from 4.75% to 6.5%. So far in the recent cycle the rate has gone up from 0.25% in December of 2015 to 2.25% as of the last tightening (Source: Bloomberg). Does a 200 basis point rate increase create enough headwind for Tech? Possibly, if the starting point of valuations are high.  Low rates encouraged risk taking, whose best representation has been the “Buy the Dip” (BTD) mentality of the last few years. The last time the BTD mentality changed quickly to “Sell the Rip” was in 2000.  It seems to be changing again.

Economic Data: On the macro front, the similarities are striking. Inflation rates have started to turn up moderately (similar to 2000), which puts the Fed in a bind: not tightening might overheat the economy, and over-tightening might kill growth.  This uncertainty might result in a policy mistake, and the markets tend to anticipate this.  Both in 2000 and today the unemployment rate fell below 4% right around the peak of the tech rally, bringing out the animal spirits.  Nominal GDP in both cases was higher than the ten year yield, which leads to upward pressure on long term interest rates even as growth starts to moderate. This combination makes any rise in risk premium doubly negative for levered stocks that pay no dividends.  Also, given the attention to trade and tariffs, note that in 1999 the US current account deficit as a percent of GDP had already started its decline from about -2% to the bottom in 2006 that reached almost -6%. Today the deficit is right around -2% of GDP and has not rolled over (yet).  Could persistent dollar strength make this happen (see below)?

The Yield Curve: Not surprisingly, the tightening of monetary policy was accompanied by a sharp flattening of the yield curve. Coming into March 2000, the spread between two-year and ten-year Treasuries was minus 0.50% (“Twos” higher than “Tens”).  Today the yield curve has not yet inverted, but it is the flattest it has been since the 2007 financial crisis.  When short yields are high and long yields are lower, two important things happen. First, long duration assets fall out of favor, and what’s longer duration than a growth stock that pays no dividend? Second, short term yields look more enticing since they provide both return and protection, so they compete with long duration assets for investment dollars.

The Dollar: As mentioned above, both in 2000 and today, the trade weighted dollar rallied for at least five years prior to the deep selloff in equities, rallying by over 30% in the period years. A high dollar creates implicit tightening of economic and financial conditions and also creates a debt payback problem for emerging markets debtors with dollar based obligations.

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