Courtesy of ZeroHedge. View original post here.
Submitted by Elmwood Data.
#1f1f1f;”>In this chart and analysis, we
compare the S&P 500 (black line) to the American Association of Individual
Investors (AAII) weekly survey. The AAII reports their respondents in three
categories: bullish, bearish, and neutral. To analyze these AAII statistics, we
create the “Farrell Sentiment Index,” defined as the number of bulls, divided
by the number of bears, plus .5x the number of neutrals =
Bulls/(Bears+.5Neutrals). This data can be quite volatile week to week, so we
opted to convert this formulaic data series into two different types of
charts. First is using a slow MACD
(24,52,18) to help analyze the accelerations and decelerations in
sentiment. In the
second we created a chart converting the Farrell Index into 30-day (blue line)
and 90-day (red line) simple moving averages.
#1f1f1f;”>The first chart shows the
Farrell Index as a MACD data series.#1f1f1f;”> #1f1f1f;”>You can see that when the MACD spikes up to +.5, as
seen on the left axis, this excessive bullishness has marked the point of a
market correction, though not always immediate.#1f1f1f;”> #1f1f1f;”>February 1, 2012 marked the last time the MACD spiked
up to this level.#1f1f1f;”> #1f1f1f;”>We also ran a
scenario analysis and every time the MACD moved 2 standard deviations above
trend (Feb 1st), the subsequent returns for the S&P were -.04% 1 month later,
-1.66% 3 months later, -13.49% 6 months later, and -18.55% 12 months
later.#1f1f1f;”> #1f1f1f;”>Conversely, there
also appears to a decent buy signal -.4 when bearishness gets too extreme, but
at present we are a ways away from that level.#1f1f1f;”>
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#1f1f1f;”>The next chart shows the same
comparison of the S&P versus the Farrell Index, but here we converted the
Farrell into a 30 day simple moving average (SMA) and a 90 day SMA. This gives another good look of how
over/under extended near term (30 days)sentiment has risen/fallen relative to a
longer period (90 days). The
further the short term SMA, or blue line, extends from the longer term SMA, or
red line, serves as a warning sign.
Right now the short SMA is 32% higher than the long SMA, which by
historical standards is quite large and should serve as a caution signal. We also ran a scenario analysis
on this differential, so that we tested for when the short SMA is 2 standard
deviations above the longer SMA.
When this event transpires, (as it currently is at this level) the subsequent
returns for the S&P were -1.55% 1 month later, -.99% 3 months later,
-11.55% 6 months later, and -14.78% 12 months later.
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#1f1f1f;”>Sentiment clearly is volatile
over time, but it can also act as a leading indicator to the market. Large
spikes up and down often signal stock market reversals. At the same time, sustained trends such
as when the Farrell 30-day SMA crosses above/below the 90-day SMA, can act as buy and sell signals as
well. These recent readings,
however, suggest that a correction
is not far off.