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What the drop in the market means for stocks (and the economy)

February 5, 2014: 1:09 PM ET

Shares are down, but not the ones you would expect.

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FORTUNE -- The recent stock selloff has people once again freaked out about the market. But perhaps it shouldn't.

CNNMoney's Fear & Greed Index is now again in extreme fear territory. A month ago, the gauge of investor sentiment was stuck on greed.

The conventional wisdom is that the selloff will be short-lived. The economy is strong. The stock market, which was up more than 30% as measured by the S&P 500 last year, had gotten a little ahead of itself. Investors were looking to take profits. So when troubles in emerging markets came along, that lit a spark over what was already dry wood.

But take a closer look, and that reasoning doesn't really match up with the recent sell off. Ghe Dow Jones Industrial Average (INDU) is down nearly 7% for the year. That's more than the S&P 500 (SPX) and the Nasdaq Composite (COMP), which are down 5% and 3.5%, respectively.

MORE: Fear be damned: Now is the time to invest in emerging markets

The Dow is made up of larger companies -- the types of corporations that are most tied to the strength of the U.S. economy. The Nasdaq is heavily weighted in technology companies, which have largely avoided the recent selloff. That suggests that the selloff is being driven by worries about the strength of the U.S. economy, not the level of stock prices.

Of course, many of those large companies derive a large portion of their revenues from overseas. So investors could be selling those stocks because they are worried about a slowdown in China or Turkey. But Jim Paulsen, an equity strategist at Wells Capital, doesn't buy it. He says we have known about problems in emerging markets for a while, at least since late last summer.

Instead, he says, what has really spooked investors is corporate earnings, which are slowing. What's more, a number of companies have indicated that they think profits could be soft for the rest of the year. "It's about growth," says Paulsen.

MORE: Will the Nasdaq soar again? Not by my math

Berkshire Hathaway, for instance, is generally seen as pure of a play on the U.S. economy as you can get. And shares of Berkshire (BRKA) have fallen 7.4%, a larger dip than the rest of the market. What's more, Dow Jones' index of U.S. retailers is down 8.4%, which is also a greater decrease than the rest of the market, and, again, a group of stocks that tend to be tied to the U.S. economy.

Here's something else: Coming into the year, both the S&P 500 and the Nasdaq had higher price-to-earnings ratios, 17 and 30, respectively than the Dow, which was at 16. When investors sell stocks because they are worried about prices, they typically sell stocks with the highest prices (relative to their earnings). But that doesn't seem to be what's going on here. High-fliers like Facebook (FB) and Netflix (NFLX) have continued to soar.

All of this should make you less worried that the recent stock market selloff will gain steam. What you should be worried about is the economy and your job. At least that's what the market seems to think.

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About This Author
Stephen Gandel
Stephen Gandel

Stephen Gandel has covered Wall Street and investing for over 15 years. He joins Fortune from sister publication TIME, where he was a senior business writer and lead blogger for The Curious Capitalist. He has also held positions at Money and Crain's New York Business. Stephen is a four-time winner of the Henry R. Luce Award. His work has also been recognized by the National Association of Real Estate Editors, the New York State Society of CPA and the Association of Area Business Publications. He is a graduate of Washington University, and lives in Brooklyn with his wife and two children.

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