Eat, drink and be merry: for tomorrow we die!

Technical Analysis tends to look at a few main factors when viewing the internal risks of the market. These factors include: Trend, Breadth, Moneyflow, Sentiment, Momentum. Some of you will be familiar with my monthly reports on a compilation of these factors that I call the “Bear-o-meter”. Today, I thought I would focus on the sentiment indicators that I look at to see if there are clues as to a falling risk profile in the markets. Some of the indicators posted below are found in the Bear-o-meter. Some are not. Credit to my favorite sentiment website, Sentimentrader.com, for offering a one-stop source of the myriad of sentiment indicators available to investors. I chose a few of my favorites.

Interestingly, most of the sentiment indicators that I follow have turned from former high-risk readings. They are now in the neutral or bullish zones. This should be good news for those who (like ValueTrend) pay attention to the seasonal patterns of stock markets. Positive sentiment readings set us up to see positive performance potential in the bullish seasonal period from November to May. Sentiment indicators are suggesting that the market is setting up for a good winter. Having said that, October is not over. The pattern for October can be for a selloff early in the month (which we got), then a reprieve mid month (which we seem to be getting) then a final selloff in the very late part of the month. One never can be sure – but its not a bad thing to hold some cash just in case this pattern continues to play out by month end. We invested 1/3rd of our cash on that early dip – but we still hold about 12% cash at this point.

Lets look at a few sentiment indicators and see what they are telling us (courtesy Sentimentrader):

Smart/Dumb confidence spread

Regular readers know that this is my favorite sentiment indicator. In fact, I named my new book on contrarian investing after it. As a reminder – if you have read the book and liked it, please post a review on Amazon. It helps me keep the book’s popularity ranking in the Amazon algorithm. Anyhow, the Smart/Dumb “spread” nets out the difference between the smart (institutional/pro traders) and dumb (retail investor flow) confidence levels. A move above the top horizontal (green) line means the smart investors like the market more than the dumb guys. This indicator is now in the positive zone.

CNN Fear/Greed

This indicator, which I (of course) mentioned in my book, is available free here.  The model measures inputs such as price trend, volatility, options trading, and bond trading to determine prevailing investor sentiment. Its in the “fear” end of the spectrum, which is bullish. Remember, the market climbs a wall of worry.

Investors and their Advisors are fearful

Lots of ETF providers and mutual fund wholesalers like to survey the opinions of Investment Advisors who recommend their products. Further, individual investors are surveyed through organizations like the AAII (American Association of Individual Investors). Having worked in a traditional bank-owned brokerage for many years, I note that most (not all) Advisors and their clients are not overly sophisticated or quantitative investors. They are indeed subject to herd behavior and fear/greed dynamics. This compilation by Sentimentrader tracks them. Right now, they are generally bearish – which is indicated by a move below the green horizontal line at the bottom of the chart below. That’s a good thing.

Put/Call

The Put/Call ratio is straight forward. When there’s more put volume and premiums, it means option traders are worried – they prefer puts over calls. When there is too little put activity relative to trading calls, it means they are complacent. The Put/Call ratio moved off of a strong “complacency” reading which had prevailed for much of 2021. Now, its neutral. That’s not an outright buy signal, but its trending in the right direction, which you will see on the chart below.

And yet….

The Put/Call ratio seen above shows a neutral reading. So too does the VIX, which is a measurement of option premium (not moneyflow or volume). The trend for option premiums as generally be falling. That indicates complacency. Recall that options writers want more money for their commitments (and traders will buy/sell at higher or lower prices) if they feel that the underlying security is likely to move a lot to expiry of the option. The problem that I see, which I noted in my presentation to the CSTA (Canadian Society of technical Analysts) on Tuesday is that the overall trend of the VIX is towards falling premiums. In other words, the trend seems to imply that all is good in the future. As a contrarian indicator, that is not a good thing. However, we can also measure the absolute reading of the VIX, which is well above my “danger” signal point of 12 or below. So, take that for what it is.  A bearish trend towards complacency with an absolute reading of neutral.

Conclusion

All-in I suggest the market is likely to have a decent winter. But the VIX may be suggesting trouble ahead from a longer perspective. Other observations that I have made on this blog – such as patterns of low volatility (as we have witnessed this year) almost always lead into patterns of high volatility. Please click on that link to get a good handle on that potential. Its important.  I wonder if the market will rally this winter, and then experience a period of higher volatility in the second half of 2022. For now, the signals are relatively bullish. I believe it was the King James bible that said ” Eat, drink and be merry, for tomorrow we die”.

Housekeeping

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Also – exciting news: I am about 75% through producing the content of the upcoming Technical Analysis Training Program. Many of you participated in the survey – and your requests have been addressed in the course.  The course will teach an A-Z process to help you invest like a pro – its highly pragmatic. I cover the macro environment, how to source new stock ideas, selection criteria, buy and sell rules, and money management discipline. Its got tons of charts, interim quizzes and other features. Filming should start in November and I anticipate it will be out late December or early in the New Year.

Hey–Its a more profitable gift than yet another sweater, so start dropping hints to your loved ones for Christmas!