3 Years that Had Extreme Index Divergences Like 2020

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

2020 was a great year for tech stocks. The Nasdaq was up 43.6% – its best performance since 2009.

2020 was a good year for large-cap stocks. The S&P 500 was up 16.4%.

2020 was an average year for the old dividend stalwarts that comprise the Dow Jones Industrial Average. It was up a more modest 7.3% (see chart below).

Few years have seen index divergences like 2020.That kind of divergence between the major stock market indexes isn’t normal. But then again, very little about 2020 was normal.

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How abnormal is this index divergence? I looked back over the previous 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 was between the Nasdaq and the two other indexes last year (the Nasdaq and Dow were closer to 40% apart).

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 last 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 (the gap was actually 9% last year). Also like last 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 2021 will hold – though I wouldn’t count on there being nearly such extreme index divergence again this year.

But the abnormal divergence last year is actually normal for crisis or post-crisis years. If things go south, which is quite possible at least in the short term given last year’s run-up and that COVID-19 isn’t close to going away, the stocks that comprise the Nasdaq will likely fall the fastest – in doing so closing the recent return gap between it and the other two indexes.

Thus, risk is higher than normal for technology stocks. But as the nine months that followed last year’s February-March market 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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