Brad Lamensdorf, the founder and portfolio manager of Active Alts, is a principal and co-manager of the AdvisorShares Ranger Equity Bear ETF. He previously managed a long-short investment partnership from 1998-2005 under the name Tarpon Capital Management. Earlier in his career Mr. Lamensdorf was an equity trader/market strategist for the Bass Brothers’ trading arm. He managed a short only portfolio in addition to co-managing a $1bil hedging program. He also served as in-house market strategist for the entire internal and external network of Bass Brothers money managers.
Growing Bullish Sentiment is Indicating Stock Market is Getting Very Dangerous. We use investor sentiment as historically accurate contrarian indicators of the direction of the stock market. So we’re not surprised the ongoing record-breaking rallies are making investors absolutely giddy. As a result, blinding them to the evidence that the market is increasingly overbought. In other words, all that illogical optimism is pushing bullish sentiment to danger levels, from a contrarian viewpoint. For instance, The Investor Intelligence poll of more than 100 writers and editors of stock market newsletters reports bullish sentiment climbed this week to from 57% to 59.4%. That’s the highest level since September 2018 when the bulls hit 60%. And that was followed by a major downturn that made 2018 the worst year in a decade for U.S. stocks.
Meanwhile bearish sentiment was virtually unchanged at 17.9%. Bearish sentiment under 20% historically is not attractive for buying. With the increase in bullish sentiment, the spread between bullish and bearish sentiment expanded this week from +39.2% to +41.5% (see chart). Spreads over +40% mean investors should begin taking defensive measures. Investors during big rallies lose sight of the fact that excessive investor exuberance.
S&P 500 Record Price-to-Sales Ratio is Warning Stock Market Trading on Thin Ice. As the chart below shows, the price-to-sales ratio (P/S) of the S&P 500 is at an all-time high of 2.42. As a result, that’s a major warning sign that the stock market could be in for some rough times. After all that 2.42 is even higher than the previous record of 2.40 ratio at the peak of the dot.com bubble 20-years ago. The fact is that the stock market also is overvalued according to the more popular price-to earnings ratio (P/E). However, we regard the price-to-sales ratio of companies as a far more accurate gauge, therefore, a clearer warning sign, because earnings are subject to all sorts of accounting manipulation. So watch out!
Investor Sentiment is Flashing Warning Signs for Stock Market. We use investor sentiment as an important tool for indicting where the stock market is headed. During the past week major sentiment indicators were flashing warning signs for both the short term and intermediate term. The SentimenTrader’s Smart Money/Dumb Money Confidence Spread shows smart investors becoming far less confidence in the market for the intermediate term. The dumb money is increasingly optimistic. The spread between the two at -0.61 is at an extreme level. Historically that is very worrisome in terms of where the market is headed.
Meanwhile the short-term CNN Fear/Greed indicator (see below) is showing investors have become extremely greedy. As a result, that is a danger sign from a contrarian point of view because the average investor historically is wrong.
Near-Record Proportion of IPOs Losing Money Is Sign of Trouble for Stock Market. As the chart below shows the proportion of Initial Public Offerings going public with losses remains close to a record high (see chart) of around 70% vs. less than 40% in normal times. As as result, that historically is a clear danger sign for the stock market. Over-priced IPOs usually occur toward the end of a long bull run when stocks in general become very overpriced. Just look at the record number of money-losing IPOs at the peak of the 2000 dot.com bubble that turned into a major market crash. Why does this happen? Generally because investors have lost their sense of reality. They are willing to buy stocks on hyped stories instead of the facts. Put another way, investment bankers are willing to stuff the market with over-priced stocks of little value as longer as the public is willing to buy them. There’s an old expression on Wall Street, “When the pigs squeal feed them.”
Low Level of Short Interest in SPY is Negative for Stock Market. The short interest in the S&P 500 ETF (SPY), which tracks the S&P 500, is at its lowest level in two years (see chart). That means many investors who use this this instrument to hedge against a market drop, have lost all fear of a downturn and see the market as continuing to move up. Historically, that’s usually a contrarian indicator that there’s trouble ahead for stocks.