Pessimism Become A Positive?

Being Street Smart: At What Point Does Pessimism Become A Positive?
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By Sy Harding | 28 March 2008

The economic slowdown continues. The housing collapse that started the whole thing continues. Home prices are dropping, and forecasts are for more price declines before houses will be affordable (now that normal financing has returned). The rate of foreclosures soars. The debt problems are spreading from home mortgages to car loans to credit-card debt and business loans. The credit-crunch continues as lenders are reluctant to loan to anyone. Every week brings headlines of another well known financial firm being in so much trouble that a meltdown of the financial system is feared. Is it any wonder then that consumer and investor confidence is declining? Not just declining, but plunging to multi-year lows.

On Tuesday the closely watched Conference Board's Consumer Confidence Index showed the index fell to 64.5 in March from an already gloomy 76.4 in February. Consumer confidence is now at its lowest level since the Iraq War began in 2003. Even worse, the 'economic expectations’ poll within the overall index, plunged to 47.9. That is its lowest level in— get this— 35 years. Investors are just as gloomy as consumers. In only four previous periods since the American Association of Individual Investors began polling its members in 1987, have those who are bearish exceeded 55%. The poll reached a very extreme 59.2% bearish two weeks ago.

The Investors Intelligence sentiment survey two weeks ago showed more bears than bulls for the first time in 5.4 years, and by the highest plurality of bears since October 11, 2002. And no wonder there’s so much pessimism among investors. The stock market is experiencing its biggest quarterly drop in the first quarter of this year since the second quarter of 2002.

No doubt about it. Gloom and doom are thick enough to cut with a knife.

But wait a minute! Maybe I can give your spirits a lift. In market analysis, investor and consumer sentiment are considered ‘contrary’ indicators. That is, confidence is always at an extreme of optimism at economic and market tops. In the other direction, consumer confidence tends to reach a level of extreme gloom and pessimism about the time steps have been taken that will soon have the economy recovering. And investor sentiment usually reaches an extreme of pessimism and bearishness about the time the stock market has reached a significant bottom and, looking six months or so ahead, is ready to anticipate that economic recovery.

For instance, while it’s sounds scary to hear that consumer confidence is now as low as it was in 2003, it might be helpful to recall that 2003 was when the economy began roaring back from the 2001 recession, and was the first year of the bull market that followed the 2000-2002 bear market. Investor and consumer confidence, which had been very high prior to the 2001 recession and 2000-2002 bear market, had become very low just about at the time the recession and bull market were ending. Thus is consumer and investor sentiment deemed a ‘contrary’ indicator.

I mentioned the Investor Intelligence survey as having the highest plurality of bears over bulls since October 11, 2002. Perhaps we should keep in mind that the severe 2000-2002 bear market had ended fourteen trading days earlier (on September 21, 2002), and the rip-roaring new bull market had already begun. I mentioned that the poll of its members by AAII, which reached an extreme of 59.2% bearish a couple of weeks ago, had only exceeded 55% bearish four times since 1987. Well, each time the market was within a couple of weeks one way or the other of a low.

So there, I offer you a few rays of hope in the midst of the extreme levels of doom and gloom in the rest of the news.

Sy Harding publishes the financial website Street Smart Report Online, and a free daily Internet blog at http://www.SyHardingblog.com. In 1999 he authored Riding The Bear— How To Prosper In the Coming Bear Market. His latest book is Beating the Market the Easy Way— Surprising Seasonal Strategies that Double the Market's Performance.

  M O R E. . .

Normxxx    
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