Trader’s Narrative

There is a lot of material to cover in this week’s stock market sentiment summary, so let’s get started:

Sentiment Surveys
According to the weekly retail investor AAII survey, 29% of respondents are bullish - a tiny increase from last week. Meanwhile, 47% of respondents expect the market to decline going forward - an increase of 8% points.

More interestingly, the AAII asset allocation to equities continues to increase. The last time we looked at this in early May 2009, it had recovered from the abysmal level of 41% - the lowest on record. Now it is at 57% with most of the increase coming from a reduction in cash holdings which were at one point the highest on record at 45%.

While as a contrarian the ideal situation would be a continued pessimism (low asset allocation to equities), this isn’t really realistic. It is normal for people’s expectations to be recalibrated once the shock of a system wide meltdown recedes. And we also need for an orderly march towards optimism if the market is going to recover. That is the only way that new money will flow into equity markets and by increasing demand, drive up prices. We are far from extremes of 70% allocation that would provide cautionary signs. So it is a good sign that we are seeing growing optimism from this indicator.

ChartCraft’s weekly Investors Intelligence measure of newsletter editor’s sentiment is - oddly enough - split exactly down the middle: 35.6% bears and 35.6% bulls. Although this is rare, the more important thing is that this is a continuation of a short term trend in the increase of those pessimistic about future market prices and a decrease in those optimistic. Not long ago the bulls outnumbered the bears 2:1 but now, they are the same.

The Hulbert Stock Newsletter Sentiment Index, which tracks a small group of newsletters which try to time the market, is 15% points lower now than it was in early June. For those that time the Nasdaq, the mood is even gloomier: 27% points lower today than in June.

When you consider that almost all indexes are now trading slightly above last month’s highest levels, this gives new life to the spring rally. This is because while the recent decline spooked the average market timer enough to reign in their horns, the following sharp rally which made up for those losses did not made them rejoin the bullish camp. This reticence to become optimistic once again in the face of higher prices is bullish from a contrarian viewpoint.

While Wall Street strategists may get paid much more than the average retail investor, their prognostications have, on average, equal dependability - which is to say, not much. Just as the retail investors were fleeing from the bear market by reducing equity allocation and building cash and fixed income levels, the Wall Street strategists were also doing the same. In fact, their lowest level of equity allocation since 1997 coincided with the March 2009 low. And once again, in lockstep with their retail strategists, they’ve upped their equity allocation slightly in response to the higher stock market prices.
Continue reading ‘Sentiment Overview: Week Of July 17th, 2009′

Here is the sentiment overview for this Easter shortened trading week:

AAII Sentiment
This week’s sentiment survey from the American Association of Individual Investors shows 44% bears and 36% bulls. That’s a 7 percentage point change from last week for both camps (a decrease for bulls and an increase for bears).

This is a welcome development because although the market (S&P 500) closed the week higher than it started, sentiment is actually less hopeful than it was. This is just one glimmer of contrarian sentiment and it is a shallow change (at only 7%) but still it is valid. At this point, we’ll take what we can.

Investors Intelligence
In contrast, the survey of newsletter editors conducted by ChartCraft shows little change from last week. Tuesday’s results show 36% bulls and 37.1% bears - putting the two sides equally at odds. In early March, we saw a somewhat polarized sentiment. But as the rally unfolded, both the optimists and pessimists have been slowly approaching each other.

Howard Ruff
The 25% rally this past month has brought out the experts. And for the most part they are now back to their talking points. Take for example, Howard Ruff. He’s decidedly bearish as usual and saying that the recent move is just a bear market rally. He’s looking for hyperinflation and a “toxic” stock market for the foreseeable future.

On the other hand, the spasmodic Jim Cramer has declared the “the depression is over”. Never mind that it was just a few months ago that he asked people to leave the market for the next 5 years. And even shorter still when he promised by a gentleman’s handshake that Mad Money will feature a more rational host. The worst is over! And it is time to become a roaring bull (again). Cue the soundboard. Increase the props department’s budget!

The lesson here is to recognize the inherent bias in every source and to recalibrate what they say based on that. There are very, very few who are as easily bears as bulls and rather than swayed by a bias, rely on evidence based market analysis.

Rydex Traders
Two weeks ago, I mentioned in a similar sentiment overview that the itchy triggered Rydex traders have stampeded to the bull’s side. To put it bluntly, these traders are too excited for their own good and are positioned as they were at previous tops.

ISEE Sentiment
The ISEE sentiment index, which measures retail option traders, showed a consistent level of optimism all throughout this shortened trading week. Although never reaching spike highs (of 200+), the call-put ratio was noteworthy for the elevated plateau it reached. Here are ratios for the equity only ISE sentiment:

• Monday — 169
• Tuesday — 170
• Wednesday — 167
• Thursday — 174

The last time the ISE index spent 4 consecutive days above 167 was late last year, just as the S&P 500 reached a peak in early January 2009.

Follow the link for an update on the CBOE put call ratio (equity only).

Uptick Rule
The SEC is putting out feelers for a change to the rules governing a short sale. It wasn’t that long ago that the uptick rule was removed but there is now a real possibility that either it will be reinstated or some similar protocols will be put in place. From a sentiment perspective, the important thing is what people think about the change. If enough think that it will be a positive, it will be, irrespective of whether it truly is. This is the crazy, self-fulfilling effect that the market can have on itself - in the short term. In the long term, reality always reasserts itself like a wave of ice cold water.

Market Breadth
Persevering readers will remember that we’ve looked at market breadth a number of ways this week. Here’s another: the simple 25 day moving average of the Nasdaq daily advance decline statistics.
Continue reading ‘Sentiment Overview: Week Of April 10th, 2009′

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.

The two major groups in the stock market have been and will always continue to be large, well capitalized and well informed “insiders”; and the small, underfunded, emotional, ignorant retail investors and traders.

These two groups engage in a financial dance which invariably concludes in the long term with one group enriching the second. Although they usually don’t take such contrasting positions, at times they can mirror each other.

A good example was in 2000 at the top of the internet bubble. The knowledgeable, “insider” team made up of hedge funds, investment banks, other Wall St. operators and the private equity team sold bits of paper (shares) in exchange for money from the retail crowd.

Right now we are seeing another one of those times. But this time it is the “insider” team that is on a buying spree.

Commitment of Traders
I’ve already mentioned that the commercials were crazy long equity futures contracts and although some time has passed things have not changed. The commercials are long about $38 billion worth of contracts while the small speculators are long their smallest amount since the bottom of the bear market.

Fund flows
According to fund flows data estimates, as the retail investor is fleeing the equity markets and seeking the sanctuary of bond markets and money market funds, the institutional investor is buying with the same intensity. Watch video about half way on the link.

Insider Activity
Corporate executives and other insiders are probably the most knowledgeable about a company’s future and while the market has taken a tumble, they haven’t been spooked. On the contrary, their buying here is only equaled to that seen at the bottom of the bear market. This in contrast to the retail investor who has been buying anything but US equities.

Newsletter Market Timers
The best market timers among the newsletters are wildly bullish, with an equity allocation of 92%. Meanwhile the worst are out of the market completely with a 0% allocation.
Credit: Mark Hulbert in Barron’s