Sunday, February 20, 2011

Investor Sentiment: Is Three the Charm?

As I have been alluding to over the past couple of weeks, anticipating a correction (beyond 1% from the near term highs) in the equity markets has been very brutal.  This market has made road kill of a lot of analysts and indicators.  With that being said, this week's sentiment update not only has the "dumb money" being bullish (as expected) but company insiders (the "smart money") have increased their selling significantly.  This is the third time since November, 2010 (when the Fed started asset purchases) that these three indicators have been aligned in such a manner.  Will the third time be the charm leading to a correction and a better risk adjusted buying opportunity? 

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 is very bullish to an extreme degree. 

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: "The number of sellers jumped 49% week-over-week while the number of buyers was virtually flat. Insiders at S&P 500, Technology and Industrial Goods were the busiest sellers. Conviction (quality) was strong, and the quantity of sellers in the S&P 500 was the second-highest on record while the figure for the Technology sector was the fourth-highest (the record consisting of 369 weeks dating to January 1, 2004). This type of week-over-week insider behavior - a flat number of buyers, a nearly 50% increase in sellers, a big jump in cluster sales and net sell inflections - coinciding with a new multi-year high for the market suggests to us that insiders are worried about valuations."

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 70.66%, and this indicator is at its highest level in 10 years of data.  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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