Anxiety is Often a Contrary Indicator

Jul 2010

Right now many investors feel pessimistic, primarily as a result of the stock market’s decline from its April highs.  Further, the economy (especially employment) isn’t growing as fast as many would like, Europe has fiscal problems, the U.S. political environment looks unhelpful, “high frequency” trading seems to lead to bolts of volatility out of the blue, and China’s growth may be slowing.  Each of these concerns is valid to a degree; however, there are always legitimate concerns facing the economy and the markets.  Likewise, there are always legitimate reasons for optimism.  In the final analysis, the reality is that after the stock market has declined for a while, many investors focus on pessimistic possibilities, and after the market has risen for a while, their focus turns to optimism.  Virtually nothing in investing seems to be as consistent as the connection between recent stock price moves and investor sentiment, yet few investors have learned to exploit the vagaries of investor sentiment.  Simply put, the best time to buy stocks is generally when prices are low—that is, when investors are giving extra emphasis to the ever-present problems of the world.  The best time to sell stocks is when prices are high—when investors are especially optimistic.  As counterintuitive as it may seem, when investor sentiment is bearish, subsequent stock market results tend to be better than average.  As a corollary, when investor sentiment is bullish (and prices are high), subsequent results tend to be subpar.  Anxiety, it turns out, is frequently a contrary indicator.