The Nasdaq just had its worst correction in two years…

The tech-heavy index fell 17% from its peak to its recent bottom. That’s a big drop in less than three months.

Now investors are spooked. Is the worst of it over? Or is this the beginning of a more extreme decline?

We can’t know the future. But history paints a pretty clear picture. And it tells us that the worst is likely behind us.

More than that, we just saw a rare setup. And it could lead to 27% gains in the Nasdaq over the next year.

Let me explain…

Investors define a correction as a fall of 10%. To be in a bear market, prices need to fall 20%. The Nasdaq’s fall this time was right in between, falling 17% at its worst.

Investors want to know what happens next. So I looked at history to see what we can expect.

Does the Nasdaq usually keep falling after times like this… or is a rebound likely?

In order to compare today’s setup to past pullbacks, I looked at two criteria going back to the index’s creation in 1971…

  1. The Nasdaq had to close 15% below its high.
  2. Then, in order to count as another case, the Nasdaq had to either regain that high or hit a rolling one-year high before falling 15% again.

This gives us a clear picture of what happens after a true 15% fall… whether a full recovery, or another downward plunge.

What I found might surprise you…

First, while there could still be a shake-up in the next month or so, the one-year returns look promising. The table below shows what investors saw after each of the previous instances going back five decades…

There have been 20 similar setups in the Nasdaq’s history. Buying after these cases has led to winning trades 80% of the time in three months, 75% of the time in six months, and 70% of the time over the next year.

Even more, the median return over the next year was a hefty 27%.

You probably notice the two dark red returns in the one-year column. The Nasdaq did have severe declines twice in similar circumstances… once during the dot-com bust and again during the global financial crisis. But that’s the exception, not the rule.

Most of the time, stocks don’t crash. But volatility does happen pretty often. We’ve seen similar falls once every couple of years, on average.

The Nasdaq already fell more than 15%. And that means the worst is likely behind us.

In short, history shows more upside is likely in the Nasdaq in the coming year. The median return was 27% after similar setups. And that means the smart move is staying long right now.

Good investing,

— Chris Igou

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Source: Daily Wealth