AMERICAN MARKET, CONTRARIAN THINKING, SENTIMENT

Contrarian Investors believe that the vast majority of investors always “get it wrong”. Well – that oversimplifies the situation, but you get the general idea. Contrarians look at Sentiment Indicators and when these are at extreme levels, it might be best to begin taking an opposing view of the market. Extreme optimism about the market would suggest that a retracement or correction is in the offing. The following are some of the sentiment indicators in the American market followed closely by contrarians:

VIX Index: (Derived from Option data, the VIX or Fear Index reflects views on market volatility for the next 30 days. Low Vix = Complacency, High Vix = Fear). The VIX Index hit a 26 Month Low on Friday, 8/1/2010.

Advisory Service Sentiment: (A survey by Investors Intelligence of a broad range of stock market newsletters.) At the end of 2090, there were 51.1% Bulls to 15.6% Bears – a ratio of 3.28/1 Bulls/Bears. That’s the highest reading in six years. This week the ratio dropped a little to 3/1 – still an extreme reading.

CBOE Put/Call Ratio: 0.564. The range for the past six years is 0.35 to 1.35. This reading is not extreme but shows above normal optimism. Punters are buying about two call options for every one put option.

Liquidity Ratio – Equity funds. Following is a chart of the Liquidity Ratio for American Equity Funds going back to 1999. The Liquidity Ratio measures the amount of cash held by Funds compared to the amount invested in the stock market. Since mid-2009, Funds have made a mad rush to invest in the market. Previous low points were seen at the end of 2007 and late 1999. And we all know what happened after that.