Investors should get ready for U.S. stocks to slide? By Mark Hulbert
* July 19, 2016
Market’s ‘slope of hope’ can be a bumpy ride
Sentiment conditions in the stock market now are just as unfavorable as they were favorable only a couple of weeks ago.
That doesn’t mean the stock market’s impressive recent rally must come to an end immediately, of course. But it does mean that the sentiment winds are no longer blowing in a positive direction.
Consider the average recommended equity exposure among a subset of short-term Nasdaq-oriented stock-market timers monitored by the Hulbert Financial Digest (as measured by the Hulbert Nasdaq Newsletter Sentiment Index, or HNNSI). Since the Nasdaq responds especially quickly to changes in investor mood, and because those timers are themselves quick to shift their recommended exposure levels, the HNNSI is my most sensitive barometer of investor sentiment.
At the end of June, one week after the surprising outcome of the British “Brexit” referendum, this average fell to minus 55.6%, which meant that the average Nasdaq-oriented market timer was allocating more than half of his short-term equity portfolio to going short. That is an extraordinary level of pessimism which, according to the contrarian logic of contrarian analysis, was a powerfully bullish omen — as I wrote in a recent MarketWatch column.
In subsequent sessions, as we know now, the stock market soared to all-time highs, surpassing the previous bull-market high set in May of last year.
Nowadays, in contrast, the HNNSI stands at 77.8%, more than 130 percentage points higher than it was less than three weeks ago. That represents not merely a shift towards optimism — it’s been a bullish stampede.
It’s rare for sentiment conditions to shift this quickly from one extreme to the other. When I first began measuring and researching sentiment among market timers, several decades ago, it typically would take as long as two or three months for the market to work off sentiment levels as extreme as what we saw at the end of June.
What used to take months is now taking weeks. This change has occurred as Wall Street has become increasingly dominated by more frequent trading and shorter-term holding periods.
One consequence of the modern era’s quick reaction times is that contrarian analysis is now even a shorter-term market timing tool than it already was. Keep this in mind as you interpret the current high level of bullish exuberance among market timers; from it we can derive little insight into where the market may be headed over any horizon longer than the next few weeks.
But, assuming contrarian analysis is as on-target as it was at the beginning of this month, the stock market can be expected to struggle over the next couple of weeks.
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