In a report last week, Bloomberg noted that investor sentiment has fallen, and this could be a positive sign for stocks.
The report noted that at the start of September, the bull-to-bear ratio in Investors Intelligence’s survey of newsletter writers fell to a four-year low of 0.9. It also noted that since 1963, the Standard & Poor's 500 Index has risen an average 11 percent in the year after newsletter writers were as pessimistic as they are now compared with an annualised return of 8.3 percent.
Bloomberg further noted that in the three previous times during the last 6 1/2 years when bearish newsletter writers surpassed bullish ones -- in April 2009, August 2010 and October 2011 -- the S&P 500 followed up with two straight quarters of gains each time, with the gains exceeding 20 percent.
An explanation for the positive potential of stocks when sentiment is weak was given by Bob Doll, chief equity strategist at Nuveen Asset Management. “The nervousness means people have stepped to the sidelines. The question is, who is left to sell? Everybody who has cash is a potential buyer.”
In other signs of bearishness among investors, the Bloomberg report noted that the “cost to hedge against stock losses is soaring, valuations are contracting, and bearishness among professional stock handicappers is rising the most in three decades”.
An earlier report by Baijnath Ramraika, CEO & CIO at Multi-Act EquiGlobe Limited, reached conclusions similar to Bloomberg's.
Analysing a market timing technique that buys and sells the S&P 500 whenever sentiment is at a bearish or bullish extreme and starting to reverse, he found that buy signals were associated with an average annualised return of 13.5 percent while sell signals produced an annualised return of 0.2 percent.
Baijnath had one important caveat though. He noted that his model was on buy signal during much of the great financial crisis. Therefore, he suggested that “it is not a tool to be used without regard to other factors”.
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