Friday, January 11, 2008

Tech Stock Insanity

It sits there, waiting quietly, a testament to over-exuberance, maybe greed on the down side or idealism on the positive side. I stumble upon it from time to time and reminisce about what might have been. What I am referring to is my My Yahoo! stock market widget with my portfolio from 1999.

At the time I had a lot of extra money to invest. Following stocks became a hobby of mine. Being in IT myself, tech companies were the main ones I investigated and invested in: Yahoo, Cisco, Intel... I got in right before the bubble burst. Within two months or less the values had doubled. It seemed the market would keep rising forever. Then, less than a year from my initial purchases, all of the stocks had plummeted below where I had bought them. Some still have not recovered their November 1999 value.

Overall, the stock market has been a great investment opportunity. Greater indexes put the annualized return of the market around 10% since its inception. Isolating the tech-heavy Nasdaq, however, shows a different story. In March 2000, the Nasdaq composite index passed 5,000. In the nearly nine years since then it has not broken 3,000. What is the reason for this volatility? I have some theories but more questions than answers.

First, I would guess that most day traders are computer savvy. Therefore, they are more likely to invest in tech stocks. These individual investors may be subject to letting the hype and excitement surrounding new technological products or businesses overshadow their true value. Part of this theory could be tested by comparing the individual versus institutional holdings of tech and other stocks over time. I believe the tech stocks would generally have higher individual holdings but also would show greater variability in this percentage over time as traders en masse buy and sell on whims.

Another reason for volatility seems to be the passing of arbitrary milestones. For example, the late '99 Yahoo stock price went from under $100 per share to over $200. Once that somehow magic number was passed, people began to question whether that valuation was really justified. Many people began to get worried or simply had seen enough appreciation to want to cash in, and the massive sell-offs began.

The stupidity of this is that price per share is really an arbitrary number. Double the number of shares and suddenly the price drops in half. This is commonly done when a stock splits. Companies also often buy up stock in order to increase the individual share value. Anyway, there is really no difference between a stock going from $75 to $80 as there is in it going from $94 to $100. These milestones make no objective difference but seem to have a great effect on traders' actions. Again this could be tested fairly easily by looking at transaction volume at key values.

Another very annoying tendency is for a company to come out with an earnings report that beats the projections, but the market reacts by lowering the stock's value because it didn't beat estimates by enough or some unknown reason. I don't understand how a company can lose 5% or more in market valuation for making the profits that everyone expected.

Despite these problems and annoyances I am back in the market in a small way. I have one stock-based IRA remaining. It often seems best to do the opposite of my inclination, but then those few times I guess correctly have me thinking that somehow this foolishness will all make sense, and I can figure it out. I just have to remind myself that it is ultimately irrational and hopefully only invest money I can afford to lose.

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