The sentiment picture is starting to become clearer. After a nearly a year of trading sideways, investors have started to display increasing signs of optimism. The market has gone nowhere for 11 months and the sentiment picture has been pessimistic to cloudy. Meanwhile, the market has shrugged of war in Iraq, SARS, further news of Wall Street shenanigans revealed during the recent brokerage settlement, and some intermittent accounting scandals. Recently, though, a number of the sentiment indicators that we follow have been flashing warning signs.
For example, I recently wrote about our Rydex OTC/Arktos ratio. Also notable is the CBOE Market Volatility Index (VIX – 23.76) trading in the low 20s, while the CBOE Nasdaq Market Volatility Index (VXN – 33.23) has moved into all-time low territory. I realize we have just won a war, and that the Nasdaq has rallied 19 percent off its lows, but a volatility gauge trading at new all-time lows is significant. At the very least, options are extremely cheap.
Another sentiment indicator that we follow is Investors' Intelligence. This week's readings came in at 55 percent bullish versus 24 percent bearish. As the following chart shows this is a fairly high reading. Readings greater than 50 percent bulls have been infrequent since the bull market top, and have generally led to negative broad market performance.
Other notable sentiment indicators have recently been found in the media. One well-known weekly financial journal recently ran a story with a giant bull on the cover titled "The Bull is Back!" Additionally, there was an article in USA Today this week titled, "By Some Measures, Bull May Be Back". This article went on to detail several definitions of a new bull market, including the well-publicized "20 percent off the lows" definition. The purpose of bear market rallies is to lure investors and traders back into the market on the long side, and if you use these two articles as gauges of broad market sentiment, I would say the recent rally has performed this role perfectly.
From a technical standpoint it's interesting that these complacent sentiment readings and bullish media articles have coincided as we approach technical resistance at the top of the recent trading range. I also found it extremely interesting to read Eric Fry's article from The Daily Reckoning, which stated, "Last week, according to SEC filings, only two corporate insiders purchased more than $1 million worth of their own companies' shares. By contrast, 65 insiders SOLD more than $1 million worth of their stock." If this were the start of a new bull market as implied in two recent media articles, wouldn't corporate insiders be buying stock hand over fist instead of unloading their holdings in size? That's a question to think about as you sit around the Wall Street poker table.
Realce:
"Other notable sentiment indicators have recently been found in the media. One well-known weekly financial journal recently ran a story with a giant bull on the cover titled "The Bull is Back!" Additionally, there was an article in USA Today this week titled, "By Some Measures, Bull May Be Back". This article went on to detail several definitions of a new bull market, including the well-publicized "20 percent off the lows" definition. The purpose of bear market rallies is to lure investors and traders back into the market on the long side, and if you use these two articles as gauges of broad market sentiment, I would say the recent rally has performed this role perfectly."
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