What to Expect After a Nasdaq Correction

The tech-heavy Nasdaq Composite (IXIC) closed in correction territory on Monday. That means it was at least 10% off its recent high. If you’re not seeing that in your own portfolio, however, don’t be confused. Other indexes did not fall in the same manner. In fact, the Dow Jones Industrials posted a gain while the Nasdaq suffered a correction. This week I’m looking at past Nasdaq corrections and breaking those down to fit the current environment to see what the possibilities are for stocks going forward.

Nasdaq Corrections

I’ll start off by looking at general pullbacks for the Nasdaq Composite. We have data for the index back to 1971. Since then, there have been 26 other corrections, with the most recent one taking place last September. Looking at the average returns, the downward momentum has tended to continue for another month as the Nasdaq averages a slight loss over the next month before it manages to turn around. The average returns from three to 12 months beat the typical returns in the second table below. The percentage of positive returns are similar in both tables -- so whether the index has gone up or down hasn’t been affected, but the magnitude of returns has been higher on the upside than downside.

With the Nasdaq 10% off these highs at Monday’s close, it’s interesting that the Dow Jones Industrial Average (DJI) was within a percent of its all-time high. I broke down the forward returns by how close the Dow was to its all-time high.

The numbers are encouraging to say the least. When the Nasdaq correction occurred while the Dow stayed near its high, the index performed very well going forward. Six months after a correction in which the Dow was within 6% of its high, the Nasdaq gained an average of 26% with six of seven returns positive. When the Dow was off its high by 6% or more at the time of the correction, the Nasdaq gained an average of 9%, with 67% of the returns positive. So, the returns have been good either way, but better when the Dow sits out the correction. Also, the turnaround was quicker as measured by the one-month return in the two instances. When the Dow has held its own during the Nasdaq correction, the Nasdaq averaged over a 4% gain over the next month compared to a 1.7% average loss otherwise.

I mentioned early on that the Dow gained points during the Nasdaq’s recent correction. Of the 25 prior Nasdaq corrections, that happened on only two other very notable occasions. The table below shows the dates of these instances. I also have the number of trading days between the Nasdaq’s all-time high and when it fell 10% from that level. Then I have the Dow’s return during those days and the Nasdaq’s returns going forward. The first time was in the first quarter of 1997. The Nasdaq shot higher by almost 50% over the next year of trading. The second time was a complete 180 from that first time. It happened at the height of the tech boom. The Nasdaq Composite went on to lose almost 60% of its value over the next 12 months. Two occurrences and two extreme results. It could be interesting going forward.