The Nasdaq, along with the S&P 500 and the Dow Jones Industrial Average, roared higher over the past two years, delivering double-digit annual gains. And the momentum continued into this year as investors piled into high-growth companies involved in hot technologies such as artificial intelligence and quantum computing — until recently.
Over the past few weeks, a drop in consumer confidence in February and a weaker-than-expected jobs report fueled uncertainty about the economy and the potential effect on corporate earnings. And investors also worried about the impact of certain moves from President Trump — for example, the launch of tariffs on imports from Mexico, Canada, and China. Trump introduced the tariffs early last week, though he delayed them by one month on items covered by the United States-Mexico-Canada Agreement.
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As a result, some of the strongest growth stocks, from Nvidia (NASDAQ: NVDA) to Amazon, have seen their shares tumble and last week dragged the tech-heavy Nasdaq into correction territory. This downturn may make you wonder whether you really should be buying stocks right now. Before deciding, though, here are three things every investor should know about the Nasdaq correction.
Image source: Getty Images.
1. Corrections don’t necessarily mean a bigger drop is ahead.
The Nasdaq entered a correction on March 6, falling more than 10% from a peak on Dec. 16, though it showed signs of recovery during the next trading session, ending the week down by 9.8% from that point. (For an index to be considered in correction territory, it must fall by 10% to 20% from its most recent high.)
It’s too early to say whether this correction period will last, but here’s a positive point to keep in mind: History shows us that corrections generally have led to positive performance. Of 11 Nasdaq corrections since 2010, 10 have resulted in positive performance in the 12 months to follow, and the average annual gain has been more than 21%. Of course, history doesn’t always repeat itself, but at least this trend shows us corrections don’t necessarily mean a bigger drop is just ahead.
2. Today is an excellent time for bargain hunting.
No investors like seeing stocks in their portfolio tumble. But there is one positive point about a market correction, and that’s the opportunity to add to some of your favorite positions, potentially for a bargain — and find new buying opportunities, too.
Though we all loved seeing stocks soar in recent times, the downside was that valuations of many players took off, too. We can use prices of S&P 500 stocks as an example, and one of the best ways to do this is by looking at the Shiller CAPE ratio. This metric considers stock prices and earnings per share over a 10-year period to adjust for fluctuations in the economy.
As the bull market roared higher, this measure reached the level of 37, something it’s done only twice before since the launch of the benchmark as a 500-company index in the late 1950s. Though it still is high at the level of 35 today, it has started to come down.
S&P 500 Shiller CAPE Ratio data by YCharts
And this happens as many stocks, including Nasdaq players such as Nvidia and Amazon, drift into bargain territory as part of the current market declines. Nvidia now trades for 25 times forward earnings estimates, down from 48 earlier this year. And Amazon now trades for 31 times forward estimates, compared with 45 just a few months ago. So now looks like a great time to go bargain hunting.
3. Increase your chances of winning by focusing on the long term.
OK, so I know it’s hard to just ignore what’s going on at the moment, especially if your portfolio is suffering. But at times like this, it’s important to shift your focus from today to the long term. If you look at stock performance from this perspective, you’ll notice that indexes always have recovered after tough periods and gone on to advance, as we can see in this chart of the Nasdaq’s performance since 2010 — the time of the first correction I mentioned earlier.
In fact, each correction looks small from this lens, suggesting that if you invest in quality companies or related assets such as exchange-traded funds, these tough times probably won’t affect your returns by much at all. By long term, I mean holding on for at least five years, but even better if the stocks you select make great holdings for 10 years or longer.
That’s why it’s crucial to go for companies with solid long-term prospects that won’t be significantly hurt during times of economic headwinds and tough markets. If you do this, you’ll sleep a lot easier during market corrections, feel better about scooping up those bargains I talked about, and potentially set yourself up for a long-term win.
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John Mackey, former CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Adria Cimino has positions in Amazon. The Motley Fool has positions in and recommends Amazon and Nvidia. The Motley Fool has a disclosure policy.