Investors are Record Neutral on Stocks

The latest American Association for Individual Investors (AAII) poll showed that 49.79% of investors are neither bullish nor bearish.

This is the highest neutral reading since June 2003.

Considering that the S&P 500 (NYSEArca: SPY) is trading at all-time highs, that’s quite remarkable. Is this bullish or bearish?

The chart below plots the S&P 500 against the percentage of neutral AAII investors, and marks similar prior readings.

It’s always tough to stuff a few decades of history into one chart, but extreme levels of apathy are usually shown after some sort of correction.

The AAII poll is one of the more noisy sentiment indicators, and I never put too much weight on it.

Get Hand-Crafted Research Delivered to your Inbox >> Sign Up for the FREE iSPYETF Newsletter

When viewed in isolation, and considering that the percentage of bullish investors is also at a 2-year low, the AAII poll results are more bullish than bearish.

Three similarly unusual sentiment readings in early May prompted the May 10 Profit Radar Report to make this comment: “The above-mentioned sentiment readings are contrary to seasonality and breadth. Nevertheless, they increase the odds of a breakout to new highs.”

The S&P 500 attained three consecutive all-time (intraday) highs since. New highs appear to have been needed to flush out premature bears (again).

Although there may be more ‘flushing’ to do, other indicators suggest risk is rising.

Simon Maierhofer is the publisher of the Profit Radar Report. The Profit Radar Report presents complex market analysis (S&P 500, Dow Jones, gold, silver, euro and bonds) in an easy format. Technical analysis, sentiment indicators, seasonal patterns and common sense are all wrapped up into two or more easy-to-read weekly updates. All Profit Radar Report recommendations resulted in a 59.51% net gain in 2013 and 17.59% in 2014.

Follow Simon on Twitter @ iSPYETF or sign up for the FREE iSPYETF Newsletter to get actionable ETF trade ideas delivered for free.

Advertisements

Assessing QE Bull Market Longevity Based on Investor Sentiment

The Federal Reserve’s liquidity policy has changed the game. Those who don’t adjust to the new rules will become dinosaurs. The interpretation of sentiment indicators is one of the things that changed. Changed yes, but obsolete no.

Is investor sentiment still a valid contrarian indicator in the Fed-manufactured liquidity rally?

The short answer is yes, but …

But what?

I believe that investor sentiment (as contrarian indicator) is an important piece of the puzzle of the market-forecasting picture, but it needs to be recognized that QE has altered money flow and how investors feel about stocks (NYSEArca: VTI).

The QE domino effect changes how sentiment should be used and interpreted.

Here’s the value sentiment indicators bring to the table in a QE market. See if you can find a pattern.

Excerpts are taken from the monthly Sentiment Picture, published by the Profit Radar Report:

The beginning of 2013 saw some slight sentiment poll extremes, but actual money flow indicators reflected indifference. In other words, investors didn’t ‘put their money where their mouth’ was.

This changed in May. The May 19 Sentiment Picture noted growing optimism, particularly among money flow indicators, and warned that: “Risk is rising and the tipping point where the market is running out of buyers is nearing.”

For easy comparison, the S&P 500 (SNP: GSPC) below shows S&P 500 daily bars along with Sentiment Picture forecasts.

The S&P 500 corrected after the May Sentiment Picture and came back to new highs on August 2.

The August 18 Sentiment Picture focused on whether the August 2 high marked a major market top and concluded that: “A major August top is possible, but not probable.”

The S&P 500 (NYSEArca: SPY) rallied to a new high in September, and the September 27 Sentiment Picture asked if the September high marked a major top?

September 27 Sentiment Picture conclusion: “Although current sentiment doesn’t preclude lower prices, the lack of bullishness at the September highs suggests higher prices ahead eventually.

The chart below shows the actual September 27 Sentiment Picture (without the commentary). The S&P 500 is plotted against five different sentiment gauges to provide a comprehensive sentiment analysis.

It shows the VIX (Chicago Options: ^VIX) near the lower end of the range. But that’s meaningless. Various 2012 Sentiment Pictures put the VIX (NYSEArca: VXX) on probation since it has lost its contrarian indicator mojo.

The other four gauges (CBOE Equity Put/Call Ratio, SKEW Index, % of bullish advisors and % of bullish investors) showed no notable extremes.

The October Sentiment Pictures (forgive me for keeping this chart exclusive for Profit Radar Report subscribers) shows an obvious up tick in bullishness, especially for the SKEW Index and the percentage of bullish investors.

Previous bullish extremes weren’t enough to trigger a market top call. Is last week’s significant up tick enough?

The companion article to the subject matter of sentiment addresses this question:

Do Current Sentiment Extremes Allow for Another 20% Rally?

Simon Maierhofer is the publisher of the Profit Radar Report.

Follow Simon on Twitter @ iSPYETF or sign up for the FREE Newsletter.

 

New Indicator by Stanford University Measures Media Sentiment

Astute investors have commented on the contrarian correlation between the media’s take on the stock market and the stock market’s performance. Now there is an actual index that keeps a pulse on the media’s sentiment.

Stanford University constructed a new index that gauges media sentiment.

I’m a ‘headline junkie’ and couldn’t wait to chart the raw data of the university’s Equity Uncertainty Index. Here’s a thumbnail rundown on the index:

Equity market related uncertainty is measured through an analysis of new articles containing terms related to equity market uncertainty. Terms are subdivided into three ‘theme buckets.’

1) Uncertainty or uncertain.
2) Economy or economic.
3) Equity market, equity price, stock market or stock price.

To be included by the index, an article must include at least one word of each bucket.

Searched are about 1,000 newspapers (via a NewsBank database) throughout the United States. Newspapers include large national papers like USA Today and small neighbor papers.

The number of newspapers NewsBank covers increased from 18 in 1985 to 1,800+ in 2008. To adjust for the growth, the index normalizes the results to an average value of 100.

Interestingly, according to the University, the index has a contemporaneous daily correlation with the VIX (Chicago Options: ^VIX). The data and Equity Uncertainty Index goes back to 1985.

As the chart below shows, the index is rather noisy, even when illustrating the 30-day simple moving average (SMA). Of course, it’s always tricky to cram 28 years of data into a five-inch chart.

The second chart cleans up the Equity Uncertainty Index a bit and plots it against the S&P 500. For this chart we’re looking at the 90-day median average since the year 1999.

Now we are starting to see a basic correlation between media reporting and stock market action. As with most sentiment indicators, the media’s reporting bias is deeply contrarian.

Big spikes in ‘uncertainty’ – much like the VIX ‘fear’ Index (NYSEArca: VXX) – generally mark a major market bottom.

Complacency, or the lack of uncertainty can (but don’t have to) be trouble for the S&P 500 (NYSEArca: SPY) and the broad market.

I look at headlines every day and compose my very own, non-scientific media index.

For example, below is my observation published in the March 10, 2013 issue of the Profit Radar Report:

“The Dow surpassed its 2007 high and set a new all-time high last week, but investors seem to embrace this rally only begrudgingly and the media is quick to point out the ‘elephant in the room’ – stocks are only up because of the Fed. Below are a few of last week’s headlines:

CNBC: Dow Breaks Record, But Party Unlikely To Last
Washington Post: Dow Hits Record High as Markets are Undaunted by Tepid Economic Growth, Political Gridlock
The Atlantic: This Is America, Now: The Dow Hits a Record High With Household Income at a Decade Low
CNNMoney: Dow Record? Who Cares? Economy Still Stinks
Reuters: Dow Surges To New Closing High On Economy, Fed’s Help

We know this is a phony rally, but so does everyone else. We know this will probably end badly eventually, but so does everyone else. The market likes to fool as many as possible and it seems that overall further gains would befuddle the greater number. Excessive optimism was worked off by the February correction. Sentiment allows for further gains.”

Looking at the chart, we see that the media is somewhat, but not extremely complacent.

I wouldn’t use this indicator as a timing tool, but it’s a fun study and potential warning.

Other sentiment and money flow indicators on the other hand are very powerful and have correctly foreshadowed market tops and market bottoms. With stocks at all-time highs we’re scouting signs for a market top.

This article is long enough already, but you may check out what other sentiment and money flow indicators ‘say’ about the potential for a looming market top. Here is: A Detailed Look at 5 Different Sentiment Gauges

Simon Maierhofer is the publisher of the Profit Radar Report.

Follow Simon on Twitter @ iSPYETF

RSI Dangerously Overbought for S&P 500, Dow Jones and NYSE Composite

As a standalone conventional indicator RSI can give some misleading signals. However, RSI has ventured into an overbought zone rarely attained. There are also other forces at work that suggest paying more than the usual attention.

Parents remember the famous words, “Are we there yet?” Investors are probably wondering, “Are we overbought yet?”

The S&P 500 has gone more than six months without a correction greater than 5%, so the question, “Are stocks overbought” is certainly a valid one.

The weekly bar chart below shows one of the most rudimentary momentum gauges – the Relative Strength Index (RSI).

RSI attempts to gauge the extent of ‘overboughtness’ by comparing the magnitude of recent gains to recent losses.

I prefer not to walk the ‘beaten path’ of technical indicators and use a 35-period RSI instead of the 14-period RSI default. The 35-period RSI spits out some signals that may go overlooked by the investing masses.

Here are the signals:

1) RSI is above 70 and overbought. In fact, RSI is at or near the highest level over the past decade. The dotted purple lines mark periods of similar RSI readings.

2) This week’s RSI high has confirmed this week’s new all-time high. There is no bearish divergence (most prior price highs occurred against a lower RSI reading).

Here are the conclusions:

1) Prices are likely to struggle moving higher or correct.

2) RSI (along with other momentum indicators) confirmed the latest price high, which suggests that any decline is unlikely to mark a major market top.

Here is RSI in context:

Various sentiment indicators have reached the ‘danger zone’ and post-election seasonality is about to turn sour.

The up trend is still intact and coming up with possible price targets or resistance levels is tougher for indexes that are trading at all-time highs. There simply is less overhead resistance.

For that reason, the Profit Radar Report has been recommending long positions in the Nasdaq-100 Index (corresponding ETF: PowerShares QQQ – QQQ).

The Nasdaq-100 has well-defined resistance and support levels. Thursday’s trade briefly poked above long-term trend line resistance and fell back below. This was a sell signal for half of our Nasdaq-100 position.

It is too early to tell if prices are ready for the seasonal summer siesta, but with sentiment heating up, seasonality cooling down and prices falling away from resistance, it’s prudent to take some profits off the table and prepare for the balancing act between milking the bullish potential and minimizing bearish risk.

Do you like to have your finger on ‘the pulse’ of the S&P 500? >> Sign up for the FREE iSPYETF Newsletter

Despite Extreme VIX Movements, Option Traders are ‘Lukewarm’

According to the VIX, option-traders are complacent and have been complacent for many months. The bearish VIX implications however, have not been confirmed by two historically accurate options-based sentiment indicators.

The VIX soared 43% on Monday, collapsed 19% on Tuesday and is up nearly 30% today. Just before that, the VIX fell to the lowest reading since February 2007.

Although the CBOE Volatility Index (VIX) is rushing from one extreme to the next, options traders as a whole have been remarkably ‘non-committal’ or lukewarm from a sentiment point of view.

This sentiment deviation is illustrated by the chart below. The CBOE Equity Put/Call Ratio has been narrowing in a triangle shape formation void of extremes. The 2010, 2011 and 2012 market highs were preceded by at least one daily reading below 0.5 and a drop of the 10-day SMA below or at least close to 0.55.

The 2013 Equity Put/Call Ratio low was at 0.54 on March 6 (the 10-SMA has yet to fall below 0.6). The recent all-time highs caused no put/call sentiment extremes.

Quite to the contrary, the VIX has rushed from one extreme to the next. For that reason, the Profit Radar Report noted back in November that the: “VIX has been of no use as a contrarian indicator and will be put on ‘probation’ until it proves its worth again.” Yes, the VIX is still on probation.

A SKEWed Market?

The CBOE publishes another options-based index like the VIX, it’s called the CBOE SKEW Index. The SKEW in essence estimates the probability of a large decline.

Readings of 135+ suggest a 12% chance of a large decline (two standard deviations). A reading of 115 or less suggests a 6% chance of a large decline. In short, the higher the SKEW, the greater the risk for stocks.

The chart below juxtaposes the SKEW against the S&P 500. Last week the SKEW fell as low as 117. This was odd as readings below 115 (dashed green line) are generally bullish for stocks.

Conclusion

The CBOE Equity Put/Call Ratio and SKEW index proved to be valuable contrarian indicators in 2010, 2011 and 2012. The current option-trader sentiment is not bullish, but it’s not as bearish as one would expect to see at a major market top.

To an extent, option-trader sentiment is in conflict with other bearish sentiment extremes discussed recently. When sentiment indicators conflict, technical analysis and support/resistance levels become even more valuable.

The April 10, Profit Radar Report highlighted key resistance at 1,593 and stated that: “A move above 1,593 followed by a move back below 1,590 will be a sell (as in go short) signal.”

As long as prices remain below key resistance, the trend is down until stocks find key support.