Sunday, December 5, 2010

Investor Sentiment: This Is Not The Consensus Opinion

Several weeks ago I watched a video where Maria Bartiromo of CNBC interviewed Gary Shilling of A. Gary Shilling and Company.  Bartiromo was soliciting Shilling about his opinion on the housing market, and as you can imagine, Shilling was less than sanguine, and in fact, he was calling for further declines in prices.  Shilling was clearly at odds with other analysts, and Bartiromo asked (and I paraphrase): "You realize your opinion is at odds with all the other analysts out there?".  Shilling's response (and I paraphrase again): "What good is an opinion if it is just consensus?" 

I love it!  

On Monday and Tuesday of this week the markets were one banana peel from falling off a cliff.  I am sure bulls were wondering (and sweating) what they were doing holding stocks at such lofty levels.  I am sure many were thinking, "why didn't I sell last week?".  Ahh, then comes Wednesday and Thursday, and we can all breathe a sigh of relief as stocks moved back to their highs.  Whatever actions the bulls wish they had taken on Tuesday are gone. 

So what has changed?  From a sentiment perspective, nothing has changed.  The bulls remain bullish to an extreme degree and corporate insiders actually increased their selling over the prior week.  I realize that my opinion is not consensus, but now is not the time to "breathe that sigh of relief".  It would seem to me that taking action is more prudent, so I still stand by what I wrote on August 13, 2010: "If the market hasn't topped out already, it should do so within a couple of percent of the recent highs.  Rallies should be sold and stops tightened up.  The market is prone to sudden sell offs.  There will be better risk adjusted opportunities to buy in the future." 

If my opinion changes or if the data changes or if the price actions causes me to re-evaluate that opinion, I will be the first to let you know.

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 remains in neutral territory ever so slightly.

Figure 1. "Dumb Money"/ weekly

Figure 2 is a weekly chart of the SP500 with the InsiderScore "entire marketvalue in the lower panel.  From the InsiderScore weekly report: "Despite losing 1.5 market days to Thanksgiving the pace of insider selling continued at an impressive clip last week. Sellers outnumbered buyers 3-to-1 and the number of sellers fell -15% week-over-week compared to a -32% decline in the number of buyers." The current "entire market" value is not extreme on a relative basis but clearly, it is extreme on an absolute basis. 

Figure 2. InsiderScore "Entire Market" Value/ weekly 

Figure 3 is a weekly chart of the SP500. 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 59.0%. Values less than 50% are associated with market bottoms.  Values greater than 58% are associated with market tops.
Figure 3. Rydex Total Bull v. Total Bear/ weekly

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Mike C said...

"If the market hasn't topped out already, it should do so within a couple of percent of the recent highs

I guess I am wondering what kind of "top" you are referring to. A multi-week/few month top or a cyclical bull top ala March 2000 or October 2007.

First, let me say I enjoy your blog and it is part of my must read list. That said, the blog is titled The Technical Take while I've noticed recently you have focused signficantly on sentiment metrics. I'm curious how you personally weight pure price trends or price based indicators (such as 200 DMA or 10-month moving average, support/resistance, etc.). It would seem to me that the purely price based stuff is pretty bullish, and if we can get a decisive weekly close above this 1220ish zone, then that would be a clear upside breakout.

I guess my thought is if we are ultimately going to 1400-1500 again sometime in the next 12-18 months (which many with good track records think it likely, Grantham is one), then does it really matter if the entry is 1220 or 1175 or 1150?

No doubt, tough call here. Valuations from a long-term standpoint (Shiller P/E and dividend yield) absolutely suck. But the moves from 1998-2000 and 2006 to the 2007 peak prove valuations can be completely irrelevant for a pretty long period of time.

It seems to me that this year in particular sentiment metrics have been all over the map and showing drastic changes from week to week. Perhaps too many people are watching them and reacting and you have some kind of 2nd or 3rd derivative effect.

I'm left wondering if the right move is simply to go with the trend. I really thought the market was going to crack at the 50 DMA but we bounced so hard off the 50 DMA the last week, it seems like whatever the reason the market wants to go higher and the path of least resistance is up.

Guy M. Lerner said...

Mike C:

Good thoughts and let me respond to some of them

1) I focus on sentiment because fear and greed are good proxies for the price cycle; what is the price cycle? It is the path that prices take from low to high and back again

2) I do do price stuff but as you would expect, I have my own twist; for example, I use the 40 week moving average with a filter -- in the search box on the blog, plug "trends in gold, crude oil and yields on Treasury bonds" or "developing a trading strategy"

3) Risk is high here because from a sentiment perspective we are likely at the end of a price cycle; ok to be long but recognize this is not the environment where the market should take off ala 1995, 1999, 2003 or 2009; so this is how I use sentiment; technical indicators help me get into and out markets and I keep them simple

4) "If we are going to 1500 in 18 months, then it probably doesn't matter when you buy"; I think that it does matter: 1) you can never really predict so you are always better buying low; 2) buying low lets you buy more; 3) buying low keeps the draw down lower; 4) buying low lets you stay with it longer if you have it wrong

5) sentiment metrics have been good this year; look when I wrote "Bull Signal" sometime in early August and now we have a Bear signal which was written in early Nov --if wrong we should know

6) remember on Mon and Tues of last week the Bear Signal looked for real; 2 days later on Wed and Thurs we are all back smiling; I don't think anything changed

7) there should be about 2-3 buying opportunities per year

8) I am not convinced that this time will be different or rather I have no data to suggest that this time will be different

Lastly, as far as what I mean by a market top, I would say that any sell off will lead to a buying opportunity; failure of that opportunity would lead to a bear market so at this point I could not say that this is the "ultimate" top; failures of buying opportunities are what lead to bear markets!!!

Thanks again for the feedback