(USA TODAY) NEW YORK — Crushed by more big losses in former high-flying Internet and biotech stocks, the Nasdaq composite on Thursday suffered its worst one-day percentage decline since late 2011, a stunning drop that sowed fear and spread to less-risky parts of the U.S. stock market.
The intense selling on Wall Street was the latest chapter in the rapid unraveling of one-time market darlings, such as social media star Facebook, which sank 5.2%, electric-car marker Tesla, which backed up nearly 6%, and Alexion Pharmaceuticals, a biotech name that slid a sickly 7.5%, the worst-performing Nasdaq stock of them all.
By day's end, the Nasdaq was down 129.79 points, or 3.1%, to 4,054. The point decline was its worst since Aug. 18, 2011, while the percentage drop was its worst since Nov. 9, 2011.
Hot stocks that grew wildly popular and were pushed higher and higher on momentum alone have suddenly lost the confidence of investors, who are getting turned off by lofty valuations and rising risk profiles.
"We are seeing a rotation away from momentum stocks, which is healthy but unsettling," says Jeremy Siegel, finance professor at the Wharton School. "Everyone rides them up, and all it takes is a little bit of bad news on one of them that triggers selling. (At that point) it could be a feather that finally tips (them) over."
Many "momentum" stocks are now being punished for their lofty valuations, which resemble the wildly overvalued levels during the technology-stock bubble in 2000. Many of these stocks, including Alexion and Facebook, are sporting price-to-earnings ratios, a commonly used valuation measure, north of 100, data from S&P Capital IQ show. That's more than five times pricier than the broader market, which is trading at 17 times earnings.
"There is a reason for investors to be cautions," says Alan Skrainka, chief investment officer at Cornerstone Wealth Management. "Momentum stocks are very overvalued."
Stocks which shoot up fast based on a good story often fall back to earth just as quickly. "Amateurs listen to stories, the pros do the math," Skrainka says. "If you speculate in hot names, you will likely get burned."
Here are a few more reasons for investors to tread cautiously:
• A leadership void. The market's leaders have morphed into laggards. And just like a good hockey team needs a leader, so does the market. "These stocks used to be leaders, but not any longer," says Bruce Bittles, chief investment strategist at R.W. Baird.
• A loss of momentum. Price momentum is fun on the way up, but when it reverses and turns negative, it can add up to losses in a hurry — and drag down less-risky parts of the market, says Lance Roberts, chief strategist at STA Wealth.
So far, broader market gauges and those filled with blue-chip stocks, such as the Dow Jones industrial average and Standard & Poor's 500, have held up better than the Nasdaq. While the Nasdaq is down 7% from its March high, the Dow and S&P 500 are 2.5% and 3.1%, respectively, below their record highs.
• Earnings fears. The market has also been worried about the upcoming first-quarter earnings season, which has been clouded by nasty winter weather.
A correction can't be ruled out. The broad market hasn't suffered a 10% drop, or a "correction," since late 2011. It's due for one, investment pros say.
"The market has gone 2 1/2 years without a correction," Bittles says. "We will have one at some point. You have to be cautious because of that."