FEAR AND GREED CONSENSUS: Risk becomes a one-night stand

March 16, 2014

It seems investors re-acclimation with stock market risk was nothing more than a one-night stand. The latest peek into the CNN Fear and Greed sentiment indicator shows that jitters and worries about the Emerging Markets and ongoing US Central Bank tapering of bond purchases appear to be a distant memory. Even with crisis in the Ukraine, it’s full speed ahead on stocks.

Over the past month, investor sentiment has shifted on a dime. A month ago all sentiment indicators flashed Fear or Extreme Fear. Now they are flashing Greed and in some cased Extreme Greed. If you had taken the other side of the trade and bought stocks when others were cutting and running, you would have generated a return of 6.91% on the S&P 500. Below is the breakdown of the indicators.

  • Last month we reported that “Market momentum has turned decidedly negative”. The S&P 500 is 5.16% above its 125-day average compared to last month where it was slightly below its 125-day moving average. Unlike last month, investors are coming back into stocks. This is further above the average than has been typical during the last two years and indicates greed on the part of investors.

  • During the last five trading days, volume in put options has lagged volume in call options by 47.29% as investors make bullish bets in their portfolios. Unlike last month, this marks amongst the lowest levels of put buying seen during the last two years, indicating greed on the part of investors.

  • Stocks have outperformed bonds by 4.97 percentage points during the last 20 trading days unlike last month where bonds were performing stocks by 7.25 percentage points during a similar 20 trading day period. This is close to the strongest performance for stocks relative to bonds in the past two years and indicates investors are rotating into stocks from the relative safety of bonds.

  • The McClellan Volume Summation Index measures advancing and declining volume on the NYSE. During the last month, approximately 6.71% more of each day's volume has traded in advancing issues than in declining issues, pushing this indicator towards the upper end of its range for the last two years. Compare this to last month where 12.93% more of each day’s volume was traded in declining issues than in advancing issues.

  • The CBOE Volatility Index (VIX) fell to 14.63 from a 20.08 range, a range it has been moving around since last summer. This is a neutral reading and indicates that market is regaining its appetite for taking on more risky investments.

  • The number of stocks hitting 52-week highs exceeds the number hitting lows and is at the upper end of its range, indicating extreme greed. A month ago, the ratio was trending near the lower end of the range.

  • Investors in low quality junk bonds are demanding 2.20 percentage points in additional yield over safer investment grade corporate bonds. This spread is slightly lower than the previous month (2.32) and what has been typical during the last two years and indicates that investors are again pursuing higher risk strategies.


  •  

One could have literally taken our last months Fear and Greed Consensus post and just switched the words “down” with “up”. Investor sentiment literally took a 180 degree turn. While all indicators were flashing Fear or Extreme Fear, they are now flashing Greed and Extreme Greed. The activity of the past month could serve as a textbook example of buying on the dips or investing in dead cat bounces. We think that this is an extreme example. It does highlight a notion that taking the contrarian position can provide upside opportunities.

Now that the sentiment has turned positive, does this mean we should be banking profits in anticipation of a pullback this month or in the near future? At a macro level, possibly because the overall global economy continues to grind through in a tepid manner. Global tremors in Ukraine and China could change sentiment again very easily and we can’t forget the good old Federal Reserve continues to slowly take money out of the system. Stock prices eventually adjust to these realities in the long run. At the end it’s always about risk tolerance and even though investors in aggregate are throwing caution to the wind, it is always important to review individual positions and determine how comfortable one is with their risk profile as well as determining if any profits are within the threshold they are seeking.