Sunday, September 19, 2010

Investor Sentiment: Onus On The Bulls

Three weeks ago investor sentiment was very bearish and this was a bull signal.  As expected, stocks advanced rather handsomely.  Of course, this was on anemic volume, and of course, all news was good news and of course, stocks only proceeded in one direction ---up!  No doubt such price action is the hallmark of short covering.  While this is how most rallies get started anyway, at some point stocks will need to gain on their own merit.  We are at that point.  With the sentiment indicators turning neutral, stocks will no longer have short covering to propel them higher.  This puts the onus on the bulls - it is time to put up.

The "Dumb Money" indicator (see figure 1) looks for extremes in the data from 4 different groups of investors who historically have been wrong on the market: 1) Investors Intelligence; 2) Market Vane; 3) American Association of Individual Investors; and 4) the put call ratio. The "Dumb Money" indicator has turned neutral after 3 weeks of showing excessive bearish sentiment (i.e., bull signal).  For a broader look at the significance of a bullish signal from the "Dumb Money" indicator, please check out the following article from March, 2009: "Putting a Bullish Signal Context".  The current bounce has followed the expected script.

Figure 1. "Dumb Money"/ weekly

The "Smart Money" indicator is shown in figure 2. This is calculated utilizing data about SP100 options (or $OEX put call ratio), which is thought to represent large tradersThe "smart money" is neutral. Previously, the "smart money" calculations utilized data from the NYSE; this data is no longer publicly available.

Figure 2. "Smart Money"/ weekly


Figure 3 is a weekly chart of the S&P500 with the InsiderScore "entire market” value in the lower panel. From the InsiderScore weekly report: "As the market found its legs last week insiders found the numbers of their brokers and as a group increased their selling again. Stripping out the Financial sector, the number of companies with selling increased nearly 30% week-over-week while the number of companies with buying rose just 5%. With or without Financials in the mix, the numbers looked rather glum as the Weekly Score for the entire market fell to its worst level since the week ended May 18, 2010."

Figure 3. InsiderScore "Entire Market" Value/ weekly

Figure 4 is a weekly chart of the S&P500. The indicator in the lower panel measures all the assets in the Rydex bullish oriented equity funds divided by the sum of assets in the bullish oriented equity funds plus the assets in the bearish oriented equity funds. When the indicator is green, the value is low and there is fear in the market; this is where market bottoms are forged. When the indicator is red, there is complacency in the market. There are too many bulls and this is when market advances stall.

Currently, the value of the indicator is 47.76%. Values less than 50% are associated with market bottoms.
Figure 4. Rydex Total Bull v. Total Bear/ weekly

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