Sentiment Overview: Week Of January 28th, 2011

The market today had one of its first serious down days in quite a long time. The Nasdaq fell 2.5% while the S&P 500 index slid 1.8%. We’ve been watching with wrinkled brow as the market has continued to inch higher day by day for weeks and weeks in the face of extreme bullish sentiment data. For more and to see if this is the definitive start of the correction that so many have been expecting, here’s the week’s overview of sentiment data for the markets:

Sentiment Surveys
Starting off with the AAII, this week US retail investors turned decidedly less bullish. The bullish camp shrank from 51% to 42% and the bearish camp increased slightly from 29% to 34%. The result is a sharp drop in the bull ratio (bulls divided by all decideds) from a high of 79% in December to just 55% this week:

It may appear unusual to see the drop in bullishness arrive on the same day that most issues fell. But keep in mind that usually there is a delayed reaction to extreme bullish sentiment in a bull market.

Investors Intelligence
In contrast, newsletter editors as measured by ChartCraft were little changed: 55% bullish and 18% bearish. So we are still seeing approximately 3 optimists for every 1 pessimist. This is the 8th consecutive week of extreme bullishness from this sentiment indicator.

NAAIM Survey of Managers
This week the NAAIM poll of money managers spiked up to 95% , the highest since mid November 2010. But we’ve seen such bullish readings for a while now. This week marks the twelfth consecutive weeks when the median exposure has been at or above 80% long. The average over this 12 weeks was 87% and yet the market has managed to climb higher:

This pattern of consistent bullish extreme is rare but we have seen it before from this indicator. The only other instance was from October to March 2006 covering 22 weeks when it was at or above 80%. This included a 7 week streak when the median exposure was at 100%. The market topped out approximately 2 years later in October 2007.

US Consumer Confidence
The Conference Board Consumer Confidence Index increased to 60.6 in January while the expectations index (for conditions 6 months into the future) increased to 80.3. For both indexes this is the highest level since May 2010. Lynn Franco, the Director of the Conference Board’s Consumer Research Center, said: “Consumers rated business and labor market conditions more favorably and expressed greater confidence that the economy will continue to expand and generate more jobs in the months ahead. Income expectations are also more positive. Although pessimists still outnumber optimists, the gap has narrowed.”

The final Thomson Reuters/University of Michigan Consumer Confidence numbers for January have adjusted the preliminary results from mid-month. The final Consumer Confidence came in at 74.2 which is a slight decrease from December’s 74.5. The current conditions index which measures the readiness of consumers to spend money on large purchases fell from fell to 85.3 in December to 81.8 in January. But the expectations index, which more closely tracks actual consumer spending, went up 69.3 – the highest since June 2010 (69.8).

UK consumer confidence
In contrast to the slowly improving US consumer confidence picture, the UK saw a complete collapse of consumer sentiment. According to the GfK Consumer Confidence Barometer fell 8 points to -29, the lowest since March 2009. This is one of the largest drops in the 35 year history of the survey. It has only fallen this much on six other instances. To find the worst, we’d have to go back all the way to 1992.

The increase of the VAT (from 17.5% to 20% ) that went into effect recently as well as the general malaise of the economy may explain the sudden decline:

Source: RMG Wealth

Fund Flows
According to ICI, money flows continued to be positive this past week for US equities with an additional $3 billion flowing into domestic mutual funds. US investors are returning set to return to equities in January at this pace and will be making the month the first positive inflow month since April 2010. Foreign funds and fixed income meanwhile were not ignored as $1.7 and $3.6 billion was added to international funds and taxable bond funds respectively.

TrimTabs reports that investors are rushing into leveraged short ETFs and exiting leveraged long ETFs. I looked at this recently myself and came away with the opposite conclusion: Rydex Leveraged ETF Ratio: A Market Top In Sight. Granted, I looked at just one fund family and calculated a ratio of bulls and bears. In contrast, TrimTabs is measuring (or estimating) fund flows for several leveraged ETFs.

Even so, I’m not completely sold on their interpretation. Partly it is that it flies in the face of everything else we are seeing and part of it is that in the past this hasn’t been all that reliable an indicator from TrimTabs. This is just one example but I remember that in late November, just as the S&P 500 was about to get a second (or fourth?) wind, TrimTabs came out with a warning that due to the fund flows out of short leveraged funds, they were ‘extremely bearish’.

Municipal Bonds
ICI reports that municipal bonds, which have been seeing panic selling, continued to bleed with an additional $5.7 billion exiting the sector. This easily eclipses the October 2008 bear market panic selling and if sustained for the final week of January, will make this month even worse than last month’s huge $12.55 billion loss.

According to Lipper, municipal bond funds had an outflow of $1.9 billion for the week ended January 19th. This was on top of the record $3.9 billion withdrawal in the previous week. Still, this is the 11th consecutive weekly outflow and brings the total bleed to $22.5 billion. That may seem like a lot of money but it represents less than 1% of the total municipal bond market, estimated at $2.9 trillion.

From reading various commentaries by money managers who are experts in the municipal market, I get the distinct impression they are frustrated at having to sell because their investors are selling. Most of them are actually bullish in response to the panic.

David Kotok of Cumberland, for example, wrote recently that we are seeing a selling climax. He bases this on several factors. One, the tax arbitrage test shows that if we assume a 35% marginal rate, the whole municipal bond yield curve is higher than treasuries. Second, redemption rates have historically marked selling exhaustions and this recent one set a new record. Third, previous selling climaxes have been marked by weak hands (retail investors) dumping bonds into the hands of strong hands (institutions) – that is the case today. Finally, municipal bond prices have actually firmed up in the face of the scary headlines that states were being prepared to go bankrupt.

I completely agree with him and have been writing to that effect for a few weeks: see last week’s sentiment overview (municipal bonds section).

China’s Chances
According to a recent quarterly Bloomberg poll, a whopping 85% believe that China is on course for a financial crisis. Only 7% believe that this will not happen. Of those polled, 45% expect a crisis to arrive in China before 2016 while 40% expect it to arrive after 2016.

This week the IPO market cracked open with two major new issues beginning to trade on US exchanges: Nielson (NLSN) and Demand Media (DMD). While the resurgence of IPO’s is a positive development, the quality and valuation of the issues is suspect. Especially Demand Media.

Option Sentiment
We’ve been watching some crazy bullish numbers from the ISE for the past several months. Some of it can be explained by the skewing effect of large cap banks which have attracted massive call buying. The rest is still somewhat of a mystery. I was expecting the ISEE index to fall back to earth if or when we saw a serious decline.

But even with today’s market, we are still seeing the ISE come in at around 2 call buyers for every single put buyer. The 10 day equity only ISE index fell to just 203 this week from its recent high of 267 a few weeks ago. That shows a very sanguine response from trades. Both to the lofty level the market has reached and to the decline we saw today.

The CBOE put call ratio shows slightly more concern with the equity only ratio rising to 0.67 today. The 10 day moving average rose to 0.55 – represented as a call put ratio to compare to the ISE, that is equivalent to 180 calls for every 100 puts traded.

The OEX traders in contrast were much more concerned about further declines. They piled into puts today bringing the put call ratio for Friday to 2.23 – the highest January 10th 2011. The 10 day open interest ratio average is also leaning into puts now at 1.19.

Overall, we are still seeing quite a bit of complacency and no real sign of concern at what could turn out to be the start of the much anticipated correction.

Geopolitical Risks
Finally, the developing protests in the Middle East which began in Tunisia and have spread like a contagion to other neighboring countries has increased the general level of geopolitical risk. The attention of the world is now currently fixed on the raging protests in Egypt where people ignored the government’s attempts to stifle them. An almost total blockage of internet connectivity, curfews, police and even the military has not been enough to stop the people from rising up to overthrow the dictatorship of Mubarak. We could very well be seeing the start of a process that will re-draw the political map in the Middle East as this spontaneous uprising jumps from country to country. It has already affected Tunisia, Egypt, Yemen, Syria, and Jordan.

This historic event is a mere footnote here but that is only because of the limited scope of the site. It is of course deserving of much more import and I’m sure that you’re tuning in to other sources to provide the breaking news as well as the implications it brings. Whether that is for the better or worse, remains to be seen. I just wanted to point out that it is yet another layer of risk that needs to be considered.

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2 Responses to Sentiment Overview: Week Of January 28th, 2011

  1. Pingback: Sentiment Addendum: Earnings Revisions & Advisor Sentiment | tradersnarrative

  2. Pingback: Sunday links: limits and dangers Abnormal Returns

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