A tech bubble is a type of market bubble which is characterized by increased speculation in the technology sector, leading to a radical increase in values for companies operating in this sector. Like other bubbles, a tech bubble is a very delicate entity, and it will eventually burst. If the bubble has grown large enough, the bursting of the bubble can drag down the economy as a whole, triggering a minor recession.
Speculative bubbles occur when investors believe that there are earnings to be made in a particular sector, and they flock to it with support and funds. The increased investment and speculation leads to an increase in valuation, and eventually stocks in that sector will reach highly inflated prices, which people will continue to pay because they believe that there is still a profit to be made. Classically, companies in the inflated sector may also engage in risky business decisions, which can hasten the collapse of the bubble.
One of the most notable tech bubbles occurred in the late 1990s, when numerous firms entered the Internet and technology sector, supported by venture capitalists and other investors. Stocks in the tech sector began to rise dramatically in value, and in many cases, the companies involved had yet to demonstrate a strong profit. A high price to earning ratio characterized many of the stocks and companies involved in this tech bubble, but investors were willing to take the risk because they thought companies would only rise in value.
In the 1990s tech bubble, companies eventually started to run out of money as they burned through their startup capital. By March of 2000, the bubble had reached its peak, and companies started going out of business, dragging the tech sector down and causing an investment panic. While one might think that investors and companies had learned their lesson with this tech bubble, seven years later, economists were warning that another bubble in the technology sector appeared to be emerging, illustrating the rapid changes of fortune which can occur in the market.
Savvy investors who can ride a bubble can stand to profit from it, if they use their funds wisely and track the market carefully. However, bubbles often draw in less experienced investors who may not understand the ramifications of what is occurring, and these individuals often experience heavy losses when the bubble bursts. As a general rule, people should think carefully before becoming involved in any frenzy of speculation, because what comes up must come down.