The dumber smart money says it ain’t the bottom yet

I’d like to give a shout out to Five Star Charts today for an interesting observation regarding  a different view on investor sentiment.

Rather than focus on “dumb money” as an indicator of an oversold capitulation point, Boris Chai – founder of FiveStar –  focused on looking at institutional money as a contrarian indicator. Interesting, given that many institutional players are often counted in as “smart money” when looking at sentiment. But…not all of them. For example, many hedge funds and mutual fund managers invest with a worse track record than the “real” smart money (ie commercial hedgers, select institutions). So, as a group, sometimes the institutions are good contrarian indicators insofar as their fear/greed readings.

I recreated a chart that Mr. Chai posted in his recent research update. Apologies to Mr. Chai if I failed to recreate it perfectly – but I think you will get the gist. In a nutshell, he feels that the institutions are not yet bearish enough to signal a true bear market bottom. I believe that Mr. Chai, along with my own way of viewing the markets, is looking for a short termed rally – keeping a cautious eye on the mid-termed potential for markets. His indication is that the NAAIM Exposure index should break “30” before a bottom might be put in.  The chart below is shows the S&P 500 on the top pane (monthly bars) back to 2007, with the bottom pne displaying the NAAIM index along with its 5 day SMA.  The “30” level (aka oversold) is indicated with a dashed green horizontal line. I’m going to quote FiveStar directly regarding the chart:

“In a bear market, an oversold situation could be extended to more oversold. That’s why if you try to find a short-term bottom, you better not. However, NAAIM Exposure index could give us hints about an oversold market. NAAIM Exposure index represents small regional investment firms to large national investment firms, including hedge fund managers, mutual fund companies and a variety of other investment firms their average exposure to US Equity markets. The current reading is at 51.35% which means the professional money managers have an average 51% exposure in US equities. In an extreme oversold situation, the index could drop to 30% to 40%. If the index could reverse the current downtrend, it could mark a short-term bottom. But it doesn’t seem it is happening. The upcoming FOMC meeting could be a market event. We may see a capitulation of selling. The VIX is also ready for breaking to a new high from the current level. Trade with cautious if you are in the short side!”

For those interested – I note that readers interested in trying the FiveStar research portal out for a while can sign up for a free 1 month trial.

Keith on BNN this Friday December 21 at 6:00pm

You might want to tune into this one folks—I’m sure I’ll have lots to talk about, given recent market developments.