I have been watching sentiment indicators for over 12 years now and one of the things that holds true almost every single time is that investors react rather than anticipate.
What I mean by that is that after the S&P peaked on April 2, the index fell over 9 percent. However, investors didn’t start becoming pessimistic until after the index made its drop.
This past week saw the Investors Intelligence bearish percentage jump from 22.3 percent to 26.6 percent, the Rydex Nova/Ursa Ratio plunged to 0.285 and the 21-day moving average on the CBOE Put/Call ratio jumped to 0.75.
The jump in the Investors Intelligence bearish percentage is one of the biggest weekly jumps in the past year, the drop in the Rydex ratio is one of the biggest drops in the past year and the jump in the CBOE put/call ratio puts it at its highest reading in the last eight months.
The problem is, these drastic changes come after the S&P has already pulled back 9 percent. Investors are reacting to the pullback after it already has occurred rather than anticipating a pullback.
If you watch the sentiment indicators for overly optimistic readings, you can anticipate a pullback and take action before the correction occurs.
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