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Sentiment Overview: Week Of June 18th, 2010 at Trader’s Narrative

Here is this week’s sentiment overview:

Sentiment Surveys
It is very rare for bears to be the majority in the weekly AAII survey. From 2009 until this week inclusive, there have only been 7 weeks where the bearish camp has been 50% or larger. The last time was in late May when slightly over half (50.88%) of those surveyed believed the stock market would be lower in the next 6 months.

This week, the survey shows a significant drop in such pessimistic thinking as bears declined to 30.7% and the bulls increased to 42.5%. If we ignore those who are neutral, then the bull ratio has now climbed from a low of 37% (on May 27th 2010) to 58%:

AAII bull ratio chart Jun 2010

Although this advance in optimism does come with higher stock prices, sentiment has leaped much more than stock prices. The bearish reading has fallen by 21 percentage points while the S&P 500 index has only eked out an advance of 1.31% since May 27th 2010. From the low of June 7th, the index is +6.4%.

So while we are yet not at an extreme level of optimism (a bull ratio of 60% or higher) the AAII sentiment has advanced quit a lot for very little incremental return in the equity market.

Investors Intelligence
In contrast to their retail brethren, newsletter editors continued to be skeptical of the stock market’s resilience. Even though the survey’s time period includes Tuesday’s strong rally, the bears increased slightly from 31.9% to 32.6%. The bulls decreased from 38.5% to 37.0%. This continued to erode the bull bear ratio, bringing it to 1.31:1 - to find a lower ratio we need to go back to July 2009, just as the stock market made an intermediate low.

NAAIM Survey of Manager Sentiment
This survey of active managers shows a slight increase in exposure to the long side of the market. The median increased from +30% to +37.5% but the average fell back down slightly from 35% to 30.4%.

If we compare this to the previous correction, the current posture is still cautious. In February, the median fell to 30% for one week and the next week it was back up to 50%. During this cycle, sentiment dropped down further (below 30%) and it has remained relatively low while the market has moved higher.

Analyst Optimism
According to research by Andrew Lapthorne of Societe General, equity analysts have reduced their earnings expectations for US companies. The following chart shows the 4 week moving average of the percentage of earnings per share estimates taht are upgrades:
US analyst optimism SocGen Jun 2010

I feel hesitant to ascribe too much to analyst optimism or pessimism. A few weeks ago during another sentiment overview, I touched on a report from McKinsey which said that analyst expectations are usually overly optimistic and their accuracy during a declining economy catches up to reality far too late.

Merrill Lynch Survey of Fund Managers
The survey covered 207 fund managers, managing a total of $606 billion from June 4th to June 10th. Overall, fund managers are not panicking but they are positioned much more defensively than the past few months. The portion of respondents who are expecting the world economy to grow dropped to 24% from 42% last month and 61% in April. Just as with analysts (see above) fund managers have changed their expectations of earnings potential. Now only 28% believe earnings will improve in the next 12 months - last month 47% believed the same and in April 67%. Not surprisingly, they see no inflation on the horizon and 80% expect the Fed to stand aside for the remainder of the year.

While the gloom over Europe seems to be slowly dissipating, sentiment towards China is now falling. In April net of 21% of respondents expected China’s economy to grow. Now a net of 27% expect the Chinese economy to weaken. As a result of the BP oil spill, fund managers exited energy stocks in a stampede resulting in the largest monthly shift in the survey’s history: going from 37% overweight energy to just 7%.

Interestingly enough, fund managers are saying that they see bargains: a net 38% say stocks are undervalued, the highest number since March 2009. But so far, it seems that they are not following through with that conviction to put money to work. Or perhaps they did during this past week.

Rydex Market Timers
Last week we looked at the Rydex ratio to see that these trigger happy retail market timers had pulled in their horns almost as much as the July 2009 low. This week, they quickly jumped on the stock market’s stabilization and its small incremental gain to increase their bullish posture:

rydex ratio long term chart jun 2010 update

Even so, this is not a bearish development since this indicator is still very far removed from an extreme overbought and increases in bullishness when the market is rising are to be expected as a natural occurrence.

Corporate Insiders
Insider selling picked up this past week taking the ratio of sales to buys well off its low from a few weeks ago:
insider transaction ratio Jun 2010 update

Corporate Buybacks
US companies are increasingly using their cash to buy back shares. According to TrimTabs, just last week, 27 new buyback programs were announced totaling $18.5 billion. Year to date there have been 343 new programs for $178 billion in buybacks - that is already more than the total that we saw in all of last year at $128 billion. If the pace set so far this year continues, 2010 will see the largest amount of share buybacks since 2007 (when $898 billion was allocated). Companies can certainly afford these buybacks since they have built up a historic cash hoard.

According to the Federal Reserve, US companies are holding a total of $1840 billion - this is the largest amount relative to total assets since 1960’s. Share buybacks not only support stock prices, they also increase EPS and allow boards more flexibility than dividends. This ‘outflow’ of paper, contrasted with the limited number of IPO’s shows a skewed supply demand picture for stocks.

Fund Flows
With the dust settling in on fund flow data for last month, we can see just how anomalous it was. Not only did US retail investors withdraw $23.6 billion from domestic equity funds, they also withdrew money from foreign equity funds ($6.3 billion) and drastically reduced the purchase of their favorite asset class, bonds.

All in all, $13.3 billion was taken out of mutual funds (in aggregate across all classes). That was the first time we’ve seen a net withdrawal since March 2009. But to find a larger net aggregate withdrawal, we’d have to go back to December 2008.

We only have data for the past 2 weeks for this month but so far, things look like they are developing along the same trend. Domestic funds have seen net outflows of $4.8 billion and bond funds an inflow of $8.6 billion. Obviously the fragile psyche of the US investor just can’t handle even a shallow correction before having flashbacks to the 2008 bear market.

According to TrimTabs, investors had been pouring money into long leveraged ETFs and selling short leveraged ETFs. But this past week they switched to buying short ETFs and sold long ETFs (leveraged). Historically the pattern of flow into these leveraged ETFs from retail investors has been a contrarian measure.

The CBOE volatility index has dropped from its spike high of 48.2 to more a normal level of 24:
volatility index VIX Jun 2010

The lower chart shows the volatility index (VIX) relative to its moving average. It too has returned to its long term average. Volatility can potentially continue to fall (concomitant with a rising S&P 500 index) for several weeks without bringing the index down to extremely low levels.

Options Sentiment
Option sentiment continues to be muted on the ISE, although we did see a big jump in call buying on Tuesday (no surprise, considering the gains in the general market). But for the most part, things are still calm with the 10 day moving average at 145, implying that only 145 calls were purchased on average for every 100 puts on the ISE:

ISE sentiment 10 day moving average Jun 2010 update2

But if we look at the CBOE put call ratio or the ISE Sentiment index, we are only getting part of the option sentiment picture. The OCC is a mother-lode of information and Jason Goepfert slices and dices it to zero in on what the smallest traders are doing. I briefly mentioned this earlier in the week when I wrote about the battle royale between fundamental and technical indicators.

The indicator is called ROBO (Retail Only, Buy to Open) and it is an even more clear indication of how the retail trader is positioned in the options market:

ROBO small option traders sentiment Jun 2010

Click here to read my review of to see why I highly recommend Jason’s work.

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3 Responses to “Sentiment Overview: Week Of June 18th, 2010”  

  1. 1 virkevin

    wow, stellar analysis as usual.

    I really liked your fundamental vs. technical discussion. I know where I’m coming out: based on commentary from select economists I trust (Rich Berner at MS, Rich Hooey at Mellon, Paul Kasriel at Northern Trust) looks like we will have steady but slower growth. So I am not too worried about the bottom falling out, and the technicals are clear. I jumped back in June 11, and I’m ready to ride!!

  2. 2 syed ahsan

    I am invester in stock mutual fund. I am impressed with your detailed analysis of market, thanks. Let us hope for the better. What worries me is that quaterly reporting season will begin next month and I wonder if the SP-500 will be able to acheive the high level it acheived in April 2010. Thanks

  3. 3 Wes


    I will be closely monitoring the OEX (smart) options traders for clues about the possibility of trading to lower lows in the coming weeks. In 2004 (another election year) these option traders predicted the coming downturn by rapidly buying puts after the May lows and generating a bearish reading in June.

    So far so good. Friday their P/C was a low 76 and their 15 DMA was a neutral but nearly bullish 108. Meanwhile the 15DMA open interest p/c of these smart traders was a solidly bullish 89.

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