Tuesday, March 26, 2013

Sentiment Is Not Bearish

There are many debates worth having in the markets right now. The most valuable to us is the apparent strength in US macro against an incredibly weak economy in Europe and parts of the developing world. How this translates into earnings growth, where expectations are very high and yet half come from outside the US, is fundamental to FY13 performance of SPX. There are valid arguments from both sides to be considered.

One debate not worth having is sentiment, specifically questioning whether investors, pundits and the media actually are now bearish equities, meaning, the real contrarian play is to go long(er).

Sentiment works best at bottoms; prices fall quickly, everyone panics and sells. Sentiment studies work nicely here because bottoms are notable events. Tops are much more difficult; prices flatten, the process can take months, during which some become conservative and others stay bullish. This creates divergences (bulls decline while indices move higher) that are harder to interpret. For examples, read further here, here and here.

The first chart is a recent analysis that has led several to conclude that everyone has turned bearish just as SPX and DJIA have reached all-time highs. When the blue line on the chart is high, "too many expect a correction" (like now).

We added the performance of SPX against this chart (lower panel) and had a hard time spotting the pattern. Hint: there isn't one.

Yesterday, we posted that both small speculators and large fund managers were, respectively, very short and very underweight, US treasuries. Read here. In fact, fund managers now have the second highest exposure to equities of the past 12 years (here). One suspects they are bullish.

Hedge funds ended last quarter with nearly the lowest cash levels in 8 years. The vertical lines indicate how that has previously correlated with SPX. They too are likely feeling bullish.

Chris Prybal shows that NYSE margin debt is back at its prior highs. The red line is SPX.  These investors are also perhaps bullish.

Several prominent Wall Street's bears have capitulated to the bull camp in the past few weeks. One says she has never been more bullish in her career.

The gentlemen who expected the Dow to hit 36,000 are back. They were last heard from in 1999.

Ryan Detrick last week showed that Investors Intelligence bears are at their lowest level since May 2011 (check your SPX chart for performance in the next weeks). Read here.

SentimenTrader shows that Rydex investors are more long than they have been in the last 5 years. Chart here.

Outside of investors and pundits, MacClean's, the Canadian equivalent of Time Magazine, had a cover story on the stock market with a subliminal message.

Many factors drive the market. Sentiment is one, and it could be overwhelmed by the others, especially continued positive surprises to macro/earnings/valuation. But we are at one end of the sentiment continuum and it is clear that more would be surprised by a fall rather than a further rise in the indices.