On March 10, 2000 — at the height of the dot-com bubble, the Nasdaq closed at 5048.62. During intraday trading today, the Nasdaq traded past the 5,000 mark for the first time in 15 years. The Nasdaq approaching its prior high has been causing a flurry of discussion about overvalued markets and possible "writing on the wall."
Back in 2000, the Nasdaq spent only two days above the 5,000 mark before it began a rapid decent. By the end of the year the index had lost over half its value and would ultimately fall 78% to just above the 1,000 mark.
While overall market valuations today are a bit lofty by most historical standards, the Nasdaq topping 5,000 — and when it ultimately surpasses its prior closing high — should not be a source of undue fear or apprehension.
The chart below shows the performance of the Nasdaq over the last twenty years. It's taken a long time to get back to previous highs, and for good reason.
Back during the peak of the tech bubble, a number of factors were much different than they are today: Information technology companies made up a much greater portion of the index, they traded on relatively unknown and understood metrics at the time, and a general lack of profits caused price to earnings multiples to reach incredible heights.
As internet companies were coming into their own during the late 90's, the emphasis wasn't on profits. Instead, investors were looking at various metrics such as website traffic and the number of eyeballs hitting a particular screen. These companies were valued primarily based on the attention they garnered, and companies who were quickly amassing new debt were favored for their high potential growth. Investors were buying up companies that had good promise, based on what they could tell, but little to no profits.
This becomes evident when we look at the index's price to earnings multiple today compared to back then. At the height of the tech bubble, the entire Nasdaq traded at over 120 times the prior year's earnings. Today the landscape is much different with the Nasdaq currently trading at about 23 times earnings. If today's Nasdaq traded at 2000's multiples, we'd be talking about Nasdaq 30,000 instead of Nasdaq 5,000.
The corporate landscape within the Nasdaq has also changed considerably. Only three of the top ten stocks from 2000 remain leaders: Microsoft, Cisco and Intel. And these companies are now considered by many to be "old tech" because they trade at modest valuations, pay dividends, and grow at comparable rates to other large S&P 500 companies.
[Read: We Have Nothing to Fear but a Lack of Fear Itself]
Back in 2000, Apple was mostly off the radar screen. It accounted for only 0.3% of the Nasdaq. The iPhone was barely a figment of the imagination and wouldn't be introduced for another seven years. Fast forward to today, Apple is now comfortably the largest company in the world and accounts for 10% of the Nasdaq. Yet Apple trades at a modest multiple of 17 times earnings — in line with the multiples of major averages such as the Industrials, and below that of the Transports, Utilities, and S&P 500.
The next largest stock in the Nasdaq is Google, which was only 18 months old back in 2000. Google currently trades around 27 times earnings. Continuing down the list, Microsoft trades at about 18 times earnings, Oracle is at 18 times earnings, and Intel trades at roughly 15 times earnings. Key components of the index simply do not fetch the sky high valuations that nearly all companies did during the tech bubble.
To be certain, there are still stocks within the Nasdaq, such as Netflix and Amazon, that manage to maintain stretched, triple digit multiples and trade on quasi-financial metrics such as subscriber growth. But those companies are now the exception and not the norm.
Another thing to keep in mind is the role inflation has played during the last 15 years. The continual devaluation of the dollar implies that on an inflation-adjusted basis, the Nasdaq would need to reach nearly 7000 to match its prior high (see chart below, courtesy of CNBC).
It's amazing to think about what's happened since 2000. We've navigated two bull markets, the global financial crisis, the devastating events of 9/11 and a few subsequent wars. We now connect and communicate heavily through platforms such as Facebook and Twitter that didn't even exist back then. And these companies are not just attracting eyeballs and attention these days, they're generating vast profits and now represent many of the largest and most respected companies in the world.
It's also important to note that the economic backdrop was much different back in 2000 than it is today. At that time the Fed was aggressively tightening (raising interest rates) and the yield curve was inverted, indicating a recession on the horizon. Back then the proverbial writing was on the wall, not just for the Nasdaq, but for the entire economy.
A lot has changed over the last 15 years, enough to broadly say — yes, this time it is different.
Technically speaking, the Nasdaq has broken out of its trading range and is heavily extended to the upside. RSI is approaching overbought territory and upside momentum is slowing. It's likely that we'll see some churning as most major averages do when they cross big round-number thresholds, but a favorable economic backdrop for equities will likely push the Nasdaq into all-time high territory shortly.
The following was an excerpt of Richard Russell's Dow Theory Letters. To receive their daily updates and research, click here to subscribe.
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