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 are this week’s sentiment cross currents:

Investors Intelligence
The measure of stock market newsletter editors sentiment published by ChartCraft shows 36.0% as bullish and as 37.2% bearish. This is a reversal of the previous two weeks where we had seen the bulls outnumber the bears. It is difficult to dismiss the rapid increase in bullishness we’ve seen since the March lows as a hallmark of bear market rallies since we’ve seen the same II pattern in previous new bull markets.

American Association of Individual Investors
The sentiment survey of retail investors shows a reduction in number that were unsure from 29% to 20%. The 9% increase in conviction was almost equally apportioned, with 36% bullish and 44% bearish.

Perhaps more meaningful is the asset allocation of the AAII. They have a paltry 41% of their portfolios dedicated to equities. This is the lowest in the history of the survey (going back to 1988). It is slightly lower than what we saw on previous long term market bottoms: early 1991 and late 2002. As well, to highlight the insecurity the average American retail investor is feeling, they have pushed their cash allocation all the way to 45%. Not only is this an all time high it is the first time that the size of cash in portfolios has trumped equities.

Hulbert Newsletter Sentiment
Since the March lows, the HSNSI has jumped by more than 45% points. While some increase in optimism is warranted in a new bull market, this much of an increase is atypical of the historical playbook. During the first 52 days of the average bull market since 1965, the stock newsletter editors that time the market have on average only increased their bullishness 29.3% points. You can read more about Mark Hulbert’s recent research into the pattern of sentiment in new bull markets. This was featured a few days ago at news.tradersnarrative.com where you can find a continuous stream of interesting articles.

Option Sentiment
Nothing really new in this area, see previous week’s sentiment overview for further details. That discussion is still valid.

Sell In May And Go Away
You know the old Wall St. adage, “Sell in May and go away”. Well, here we are. We have now officially entered the time period which has historically been most difficult for the stock market.

So far we’ve had a tremendous rally off the March lows: the S&P 500 index gained 28.4% and for the two months of March and April, it has risen 25% with most of it coming from March. April’s gain was 8.2%

Looking at market cycles, this is rare. To see such a similar strong performance for the months of March and April we would have to go back to the 1930’s where intense bear market rallies were the norm. In those times, it wasn’t a good time to put fresh money to work (hence the label of bear market rallies and the annual cyclical nature of returns).

Big Money Poll
Last weekend brought out Barron’s quarterly Big Money poll. The small group of strategists surveyed were decidedly optimistic with 59% stating they were either bullish or very bullish. While a surprising 58% stated that they didn’t believe the market had bottomed yet, almost the same percentage (59%) identified the stock market as the best asset class for the next 6 to 12 months going forward. I’ll leave you to ponder the riddle of their logic.

The problem with the Big Money poll is that in its history, as a group, it has never been truly bearish. So while we would like to use it as a contrarian measure, we really can’t because for the most part it has no edge.

Drilling down into the sectors, the most unloved were Transportation and Utilities. In contrast, the Big Money poll liked corporate bonds, emerging markets (Latin America & Asia) and oil. But the one thing they almost all agreed on (84%) was to be bearish on US treasuries. This is puzzling since they’ve been persistently bearish on bonds for the past 8 years in the face of a powerful bull market in that asset class - especially in 2008.

Wall St. Strategists
The insistent bearish stance of the Big Money poll participants is in contrast to the current recommended allocation by the average Wall St. strategist. Right now they’ve peaked at a suggestion of 38.9% of client portfolios to (US long term) bonds, which is the highest in 12+ years. The last time they were even close to this level was in 1998 (34% allocation) when bonds topped and didn’t regain their previous high for another 3 years.

The asset class garnering the highest allocation is equities with a 52% weighing. Similar to the Big Money poll, Wall St. strategists are never outright bearish. Their bullishness is either raging or reluctant. So put in that proper context, the current allocation is very timid. It is the lowest allocation to equities since 1997. And during the bear market bottom of 2002-2003, their equity allocation was 68%.

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