Bernie Schaeffer: "Mind the Bull-Bear Gap"

Stocks tend to underperform after the bulls take this substantial a lead

Feb 26, 2019 at 8:31 AM
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One of the essential broad-based sentiment indicators we track is the weekly Investors Intelligence (II) poll, which measures the mood among financial advisors in much the same manner that the American Association of Individual Investors (AAII) survey takes the temperature among retail-level market participants. Independent of any traditional stereotypes about "smart money" or "dumb money," we've found that both of these sentiment polls can provide major contrarian value (at least, when they run counter-trend -- you know the drill here).

There were a few points of interest that caught our eye in the mid-February II results, as displayed on the accompanying charts. For the week ended Feb. 15, the percentage of bullish respondents rose to 51.9% -- the sixth straight week of increasing optimism, and the first cross by the bulls above 50% since October. As a point of reference, we typically consider a reading of 40% or more to be "extreme optimism."

The percentage of bearish advisors, meanwhile, fell to 20.7%, while another 27.4% of advisors foresaw a correction in the market. As such, a metric we call the "bulls-minus-bears" line (quite simply, the percentage of bullish respondents less the percentage bearish) hit its highest level since October, per the first chart below. The differential crossed above 30% for the first time in four months to arrive at 31.2%, up from 28.0% in the week prior. This sudden, sharp divergence between the bullish and bearish camps is clearly displayed by the green and red lines on the second chart below.

These numbers are still far from "off the charts" euphoric, but the current bullish percentage of 51.9% is above the average reading of 48%, looking at II data since 2005. Likewise, the bearish percentage of 20.7% is lower than the 25% mean since 2005. Most dramatic of all, however, is the current gulf between the two contingents, as the bulls-minus-bears reading of 31.2% hovers well above the average of 23.0% over the past 14 years.

And more to the point, the current bullish skew is such that we might now expect to see some kind of minor contrarian impact on the stock market. The prevailing bulls-minus-bears gap of 31.2% arrives in the 77th percentile of all-time readings, up from its perch in the 71st percentile a week ago -- and data from Schaeffer's Senior Quantitative Analyst Rocky White suggests that traders might anticipate some short-term underperformance from stocks after the bull-bear differential gets this wide.

Looking back at S&P 500 Index (SPX) returns since 1972, the equity benchmark sports an average eight-week return of 1.24%, on an "anytime" basis. But after the II bulls-minus-bears reading climbs into the 70th to 80th percentile range, that average eight-week return dwindles to 0.71%. In other words, the sudden rush of optimism that's accompanied the sudden rush higher in stocks might now unwind in the form of a slower, choppy trudge for the market over the weeks ahead, particularly with the likes of S&P 2,800 and the fourth-quarter highs directly overhead.

spx with ii bulls-bears mid-feb 2019

Subscribers to Bernie Schaeffer's Chart of the Week received this commentary on Sunday, February 24.


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