Based on historical data from 1995 through to the present, the Nasdaq Composite Index (US 100) has not yet bottomed out and as the markets experience a fundamental reset in interest rates and a potential recession, the tech-focused index could see up to 19% further decline to under 9,000 by the end of the year, DataTrek Research estimates in a note issued to clients on Thursday.
Analysing Nasdaq returns dating to before the 2000-2002 dot com bubble burst, the index has only truly begun rebounding after surpassing a two standard deviation decline from peak levels within the past year. This has only occurred twice since 1995 – the dot com bubble bursting and the financial crisis of 2008 through 2009.
“A two standard deviation annual loss for the Nasdaq, if it occurs in the next [five] months, takes us right back to where [Nasdaq] traded just before the pandemic,” said DataTrek Research co-founder Nick Colas in the note. “All the growth Tech enjoyed over the last 2 years would be fully offset by higher interest rates and economic uncertainty.”
Nasdaq 100 Composite Index (US 100) price chart
Nasdaq at tipping point
Based on the Nasdaq’s 14.5% average return over any given one-year period, a two standard deviation decline is 36.2% from peak levels, the worst-case bottom would be 8,960, or a further 19% decline. The Nasdaq closed Wednesday at 11,048, moving 109 points higher in mid-day trading Thursday.
Currently, the one-year return for the Nasdaq is roughly negative 22%, based on the 23 June 2021 14,253 level, at the mid-point between a one and two standard deviation decline. Assuming the historical fact that bear markets bottom out in the fourth quarter, the Nasdaq is currently at the tipping point for potential further declines.
Unknown variables, DataTrek notes, include the high point for interest rates – driven by Federal Reserve monetary policy – and how much the tech composite companies “over-earned” over the past two years, as tech spending increased during the Covid-19 pandemic on government stimulus and low rates.
With the scope of a potential recession not fully known at this point, the large index component companies in the Nasdaq are particularly susceptible to lower consumer demand. For example, Apple (AAPL) and Tesla (TSLA) sell relatively high-priced consumer durable products, while software companies such as Microsoft (MSFT) are particularly sensitive to business spending.
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Catalysts for rebound
Somewhat mitigating factors exist, however, considering all of the aforementioned companies are both globally competitive and extremely profitable. Additionally, as access to broadband internet expands into emerging markets, not even a global recession would dampen technology demand over the next three to five years.
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Using these two bear market periods, DataTrek notes the rebounds have come only after a change in either monetary policy or geopolitical conditions. For example, the trigger event for the Nasdaq bouncing back after the dot com bubble burst came after the US Congress authorized military action in Iraq in October 2002 and the 2008 through 2009 financial crisis only turned around after then US President Barack Obama signed a fiscal stimulus package in February 2009.
Interestingly, should the Nasdaq reach the 36% two standard deviation by mid-November, the Nasdaq Composite Index would be in a range between 8,960 and 10,240 – the 9,600 mid-point of which would be close to the 9,817 pre-pandemic Nasdaq high level from 19 February 2020, DataTrek notes.
“There is an odd symmetry in that, we will admit,” Colas notes. “Still, that’s how the math works.”