Trader’s Narrative

Sentiment Surveys
No significant change within the usual sentiment surveys. Both the AAII and II moved just 1% points: the AII going to 47% bulls from 46% and the Investor’s Intelligence bullish percent from 45% to 46%.

Hulbert Newsletter Sentiment
According to Mark Hulbert, out of 10 market timing newsletters with the best risk adjusted performance, seven are bullish right now. Among the ten, their average equity allocation is a whopping 78%! This is especially meaningful when compared with what the worst market timers are saying: an equity allocation of just 11%.

So unless you think that all of a sudden the pattern of performance is going to be upended, this is a very bullish sign for the market.

ISE Sentiment
We got a surprising uptick in the ISE Sentiment index this past week. On Thursday it peaked at 192. To provide some perspective, on October 8th, 2008 the ISE sentiment index reached 279 and on October 29th 2008 it reached 275. The October swing high of around 1560 was put in between these two dates.

And finally in mid May, when the market made its swing top, the ISE sentiment was 225. We didn’t really approach record highs for this measure but usually anything around 200 shows significant risk aversion (the ISEE sentiment is a ratio of calls to puts).

LowRisk Sentiment
A few people contacted me asking about LowRisk and as I mentioned before I haven’t received any response from Jeff Walker after inquiring about LowRisk. Their site continues to be stuck on March data with no updates as of yet. Unfortunately, it looks like this sentiment measure is no more.

So more or less we continue to muddle through with lukewarm sentiment on average. I continue to see the March bottom however, as significant and these counter currents we’ve seen lately don’t necessarily negate that.

Maybe it was too much bubbly and partying over the holidays that got the retail options traders just a tad too giddy for their own good.

It’s not surprising to see the market falter heading into the new year when the ISE Sentiment Index reached the altitude of 168 on the last trading day of the year (Dec 28, 2007).

This number isn’t extremely high and certainly not as high as the ISE has gotten in its history. But relative to recent readings, it is just high enough to make me uncomfortable.

We have a lot of other indicators lined up for the bull thesis so it is troubling to find this sticking out like a sore thumb. Of course, we never get a full confluence of indicators but the ISE is a very powerful and reliable one.

And since last time it helped me flagged a top in July: Turbulence Ahead For The Market, and the bottom in mid August: Market Due For Recovery, I can’t very well ignore it.

The weight of the indicators is still bullish, especially in the intermediate to long term, but right here, for now, I don’t think it is wise to be too aggressive in the short term. Unless the retail options trader pulls back their optimism we could be in for a rough patch.

The sentiment overview for this week in the markets:

Sentiment Surveys
The usual suspects: AAII, Investor’s Intelligence, LowRisk, Consensus and Market Vane did not vary significantly over this past week so I won’t go into detail.

ISE Sentiment Index
Although technically a measure of options activity (ratio of puts to calls), the ISE Sentiment Index (ISEE) reached a 32 trading day high yesterday at 151. Today’s reading hasn’t been release but going by the intraday data, my guesstimate is in the high 140 range (UPDATE: 154). The 10 day moving average of the ISE put/call ratio has reached 118, well off its multi-year low in the 90’s range - where it gave a wonderful signal to mark the inflection point.

Magazine Cover Stories
This unusual sentiment indicator only gives signals sporradically but when it does, it pays to take notice. In August there were multiple negative cover stories. Here are 3 that I caught:

Notice the liberal use of the color red (with its obvious and subconscious connotations). Also, the Economist cover art not only shows a surfer, perilously hanging ten - about to be engulfed by a larger wave behind him - but those grey specs are four sharks in the water waiting for the inevitable.

The last time I featured a negative Economist cover was last summer when they ran a photo of a bear in the woods, just as the stock market was in the middle of its correction. The swoon lasted another month and prices dipped slightly lower than when the cover story appeared but clearly the worst was already over.

And lest you think that cover stories only have contrarian power when they are bearish, consider the glowing Akamai cover story in Forbes magazine in mid-April when it was trading around $50 a share. Now it is scraping $30.