3 Years that Had Extreme Index Divergences Like 2020

There’s a 20% gap between the Nasdaq and the other two indexes this year. That kind of index divergence has only happened three other times this century.

2020 has been a great year for tech stocks. The Nasdaq is up 23.1%, as of this writing.

2020 has been a decent year for large-cap stocks. The S&P 500 is up 4.2%.

2020 has been a disappointing year for the old dividend stalwarts that comprise the Dow Jones Industrial Average. It’s down 2.9%, so far (see chart below).

This kind of market index divergence is rare.That kind of divergence between the major stock market indexes isn’t normal. But then again, very little has been normal in 2020.

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How abnormal is this index divergence? I looked back over the last 20 years, and found only three that were similar: 2000, 2003 and 2009. Those were the only other years in which there was at least a 20% separation between two of the three major indexes, as there is now between the Nasdaq and the Dow.

Here were the divergences:

3 Past Index Divergences

2000

S&P 500: -10.1%

Nasdaq: -39.3%

Dow Jones: -6.2%

2003

S&P 500: 26.4%

Nasdaq: 50.0%

Dow Jones: 25.3%

2009

S&P 500: 23.5%

Nasdaq: 43.9%

Dow Jones: 18.8%

Like this year, the divergences those years were mostly between the Nasdaq and the other two indexes; the S&P and the Dow were more or less aligned, within 5% of each other (though this year the gap is currently 6.7%). Also like this year, those divergences occurred either in the midst of or on the heels of some sort of extreme event.

2000 was the year the dot-com bubble, which had driven internet stocks to unsustainable valuations and share prices, finally burst. The indexes fell apart, but none more so than the tech-heavy Nasdaq, where many of those overinflated internet stocks resided.

The bursting of the dot-com bubble, combined with the 9/11 attacks in 2001, led to a three-year bear market. Stocks didn’t even begin to recover until 2003. And the worst performers were (naturally) the internet stocks that managed to survive the dot-com bubble bursting purge. Thus, their recovery was swifter, causing the Nasdaq to outpace both the S&P and the Dow by more than 20% that year.

And, of course, there was 2009, which was the year America finally stopped the bleeding from the Great Recession, caused by the subprime mortgage crisis. Again, Nasdaq stocks, because of their high valuations prior to 2008, had suffered the worst of the sell-off. So when stocks started their long recovery, in March 2009, the Nasdaq rose the fastest.

Each situation is different. A global pandemic is a whole different animal from a dot-com bubble burst or a normal (i.e. not self-imposed, for health reasons) recession. So who knows what the last three and a half months of 2020 will hold.

But the abnormal index divergence this year is actually normal for crisis or post-crisis years. If stocks bounce back from the mini-market collapse they’ve gone through over the past week, I’d expect the semiconductor stocks, artificial intelligence stocks and biotech stocks that make up the Nasdaq to lead the way. If things continue to go south, those stocks will likely fall the fastest.

Thus, risk is higher than normal for tech stocks. But as the five months that followed the initial February-March crash showed, so are the rewards. Invest accordingly.

Chris Preston

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*This post has been updated from an original version.

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