Markets

Has the NASDAQ Composite overcorrected?

Written by Charles Archer

The NASDAQ Composite has now fallen by 24.5% since its November high. Are further falls inevitable, or is a recovery imminent?

The NASDAQ Composite index has surged since the covid-19 pandemic began, as the loose monetary policy supported by the US Federal Reserve saw it rocket to record levels.

But the index is now firmly in a bear market, and further potential headwinds are on the horizon.

NASDAQ Composite: Macro headwinds

Two features are key to understanding the index’s current trajectory. The first is that the NASDAQ is disproportionately overloaded with tech stocks which rely on cheap money to rapidly expand. As the flow of credit continues to tighten, many are seeing growth forcibly stalled.

The second is that the index is weighted by market capitalisation. According to Fidelity’s Nasdaq Composite Index Fund factsheet, just ten NASDAQ stocks comprise 48.34% of the index’s value.

Even casual investors will know their names. But AppleMicrosoftAmazonTeslaAlphabetNvidiaMeta Platforms, and Broadcom have all suffered severe share price falls year-to-date.

And because these individual stocks comprise nearly half of NASDAQ Composite’s value, the index has also fallen, by 21% year-to-date to 12,536 points. In April alone, it suffered its worst monthly fall since the 2008 financial crash.

It’s not hard to see why, as a cocktail of headwinds continues to batter the tech sector. US Consumer Prices Index inflation is at 8.5% and rising. The Federal Reserve is widely expected to raise interest rates by 50 basis points this month. And the Conference Board Consumer Confidence Index was at a mere 107.3 in April.

Meanwhile, Commerce Department figures show that US GDP fell at an annualised rate of 1.4% between January and March. One more contraction and the US is officially in recession.

Pantheon Macroeconomics Chief Economist Ian Shepherdson puts the GDP dip was down to the negative contribution from inventory rebuilding, arguing ‘this is noise; not signal…the economy is not falling into recession.’

However, Wells Fargo analysts caution that ‘consumers have been able to maintain positive rates of real spending by reducing their savings rates. But if inflation continues to erode purchasing power, then consumers may eventually decide to retrench.’ And further, they argue that ‘the probability of recession next year is not insignificant.’

More pessimistically, Deutsche Bank believes the Reserve will trigger a ‘major recession’ before the end of 2023 by hiking rates above 5%.

Where next for the NASDAQ Composite?

The index has seen three significant falls over the past two decades; the early 2000s dot-com bubble, the 2008 financial crisis, and the 2020 pandemic crash.

In the five years preceding its 10 March 2000 high of 5,049 points, the Nasdaq Composite exploded in value by more than 400%, on low interest rates and a historically high number of Initial Public Offerings. But by 4 October 2002, the index had collapsed by 77% to a low of 1,140 points. It then took 15 years to recover.

And during this time, the index also fell by more than 50% during the 2008 credit crunch to a low of 1,867 points. This second dip within a dip took two years to recover from.

But by 14 February 2020, the Nasdaq Composite had risen to a heady 9,731 points, before falling by 29% to 6,880 on 20 March 2020 during the covid-19 pandemic-induced crash.

Then as the US Federal Reserve opened up its purse strings to stave off economic collapse, the index rapidly recovered, striking a record intra-day high of 16,212 points on 22 November 2021.

But it’s now corrected by 24.5% to 12,229 points during trading yesterday. It would need to fall a further 20% to return to its pre-pandemic level.

Of course, many top NASDAQ companies have seen significant growth since the pandemic began. On fundamentals alone, most are stronger companies than they were in early 2020.

The key problem for their share prices, and by extension the NASDAQ Composite, is that they are determined by the expectation of continued explosive growth. But in the current fiscal environment, this is simply not possible. And the result can be seen in Alphabet’s advertising revenue, Meta’s Daily Active Users, and Netflix’s streaming subscribers

And with financial policy widely expected to tighten, the Nasdaq Composite could see further falls soon.

Of course, an optimist will note that the index has set new highs after every correction in its history.

About the author

Charles Archer

Charles Archer is an experienced freelance writer specialising in financial law. He has a background in stock market analysis and financial services recruitment. Since 2017, he’s worked as a freelance investment writer, predominantly covering UK Enterprise Investment Schemes and US stock market IPOs for private investors.

Charles has had investment articles covering the US, UK and Chinese stock markets published by The Motley Fool, Business Insider, International Business Times, Fineco, DBC Media, Interactive Investor, Sharesight and Investing.com.

Charles has a BA (Hons) in History with Politics, as well as a Master’s degree in Law from the University of Law. He is currently working towards Chartered Financial Analyst status with the CFA Institute.

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