Last month, the stock market suffered its worst August decline in 9 years. September abruptly changed course and delivered a lightning fast sharp rally. What’s up with that? Just who or what is driving this volatility? I was very surprised to learn that it is the individual investor.
The retail investor, who is commonly referred to as “dumb money,” and the institutional investors, referred to as “smart money”, trade during different hours of the day. The dumb/retail money trades at the open while the smart/institutional money trades at the end of the day.
The dumb/retail money drove the market down in August with their bearish sentiment reaching an extreme not seen since March of 2009. The dumb/retail money then made a complete bi-polar turn-around and has driven the market up by about 7% so far in September, on extremely light volume I might add. The charts below provide the evidence.
August 2010
September 2010
Below are the results of the sentiment survey offered by the American Association of Individual Investors? It measures the percentage of individual investors who are bullish, bearish, and neutral on the stock market short term; individuals are polled from the AAII Web site on a weekly basis. Only one vote per member is accepted in each weekly voting period. Notice that on August 29th only 20.74% were bullish. As of September 16th, the number has risen to 50.89% bullish. It has gone from one extreme to the other in the blink of eye.
Survey Results
These drive-by asssaults on both the downside and upside in the current range bound US market appears to be driven by daily news events and weekly economic reports rather than fundimentals or historical perspectives.
As mentioned in the August issue of The Gerritz Letter, bearish and bullish sentiment extremes can lead to market reversals. Extreme market sentiment is a contrarian indicator. Based on the current bullish sentiment readings, I would not be surprised to see the market correct fairly soon.
The GWM trend tracking style strives to invest with the wind at our backs and avoid turbulent trendless markets. We have identified some trending markets and have repositioned client portfolios to take advantage of these trends.
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