The stock market has enjoyed a strong start to the year, with the S&P 500 and Nasdaq Composite climbing 8 percent and 9 percent respectively. Much of this growth has been fueled by impressive corporate earnings, particularly within the tech sector. However, seasoned observers are beginning to warn that these gains could be threatened by a perfect storm of economic pressures. Rising oil prices are stoking inflation fears, which may push the Federal Reserve toward raising interest rates again soon. When you combine that potential shift with the traditional instability surrounding midterm election years, the recipe for a sharp market correction seems to be in place.
Historical data suggests there is plenty of reason for caution. Over the last four decades, every time the Fed shifted from cutting rates to hiking them, the S&P 500 and Nasdaq typically dropped by an average of 10 percent and 12 percent within three months. Midterm elections add another layer of risk, often creating political uncertainty that leads to even deeper declines. In fact, during midterm years over the last forty years, indices have seen average dips as deep as 17 to 24 percent as power shifts in Congress.
Despite these looming threats, history also provides a comforting roadmap for those looking to build wealth over time. While corrections are inevitable, they have historically served as prime buying opportunities rather than signals to flee. Data shows that after the S&P 500 enters correction territory—meaning it drops 10 percent from its peak—it has gone on to return an average of 18 percent over the following year and a staggering 40 percent over two years. The Nasdaq tells a similar story, averaging a 21 percent return in the year following such a dip.
The key takeaway for most investors is not how to avoid the crash, but how to react when it happens. Experts strongly advise against trying to time the market by selling off assets in hopes of buying back at the absolute bottom. According to analysts at JPMorgan Chase, seven of the ten best trading days in recent decades happened within two weeks of some of the worst days. By attempting to dodge volatility through selling, investors frequently miss the sudden rebounds that drive long term growth. Instead, history indicates that those who stay disciplined and simply buy more index funds during a downturn are usually rewarded handsomely in the end.