Sentiment Signals: Bulls and bears retreat from extreme levels

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The results of the latest AAII Investor Sentiment Survey show that the bullish and bearish sentiment readings have eased further from the previously extreme levels. For the week ended January 19, 2010, the bulls declined to 50.3 from 55.8 two weeks ago and the bears increased to 29.1 from 18.2.

Nonetheless, bullish sentiment stayed above its historical average of 39% for the 20th consecutive week – the second longest streak in the Survey’s history. Although bearish sentiment climbed to its highest level of pessimism since November 18, 2010, the measure remained below its historical average of 30% for the 17th week in the past 19 weeks.

Sources: AAII Investor Sentiment Survey; Plexus Asset Management.

Wheras the AAII Survey focuses on individual investors, the Investor Intelligence Survey deals with financial newsletter writers. This survey measured sentiment over the same period as the AAII and indicated bullish sentiment dropping to 56.0 from 57.3% during the previous week – a reading somewhat below the December 2007 high of 58.8%. The bears increased to 20.9% from 19.1%, marking the fewest bears since April 2010.

Although I do not have raw data going very far back for the Investors Intelligence series, the combined reading of the AAII and Investors Intelligence Surveys nevertheless makes for interesting reading.

Sources: AAII Investor Sentiment Survey; Investor Intelligence Survey; Plexus Asset Management.

Sentiment indicators are fairly blunt instruments from a timing point of view and can stay at high / low levels for extended periods. However, when companies are overvalued and technical indicators overbought, overbullish sentiment indicators as occurred two weeks ago complete a threesome of tools arguing quite strongly for a cautious approach to stock market investment. (Also see my two posts of Thursday and Friday: “I’m hedging my stocks by going long volatility” and “Stock markets: two canaries calling for caution“.)

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