Despite Extreme Sentiment Indicators, Investors Seem Unwilling To Take Advantage.

In a report released by the Bank of America Global Fund Manager Survey last week, it was noted that investor sentiment has leveled out at levels that have been seen at their lowest levels over the last 20 years. 

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As a result, it is a good omen for investors: sentiment indicators tend to be most useful at extremes, and when sentiment gets so pessimistic, it is more likely to signal the bottom of the market within a short period. 

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Despite this, there seems to be no sign that anyone is willing to get more optimistic by taking the bait. 

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Lori Calvasina from RBC Capital Markets made the point this morning as well that many of the sentiment indicators were at extreme levels. 

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Her view was that retail investor sentiment (as indicated by the recently released AAII sentiment survey) is about as bad as it was during the Great Financial Crisis. This seems positive at first glance: she points out that the S&P 500 usually rises 15% on average over the next twelve months when sentiment gets this bad. 

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It is also worth mentioning that other indicators of sentiment are at extremes as well. In contrast to the recent high of late-2022, the Equity Put/Call Ratio is still below those levels, however, it is near previous highs of 2010, 2011, 2014, 2016, 2018, and 2020, which are typically accompanied by strong returns on an S&P 500 basis over the next 12 months. 

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Additionally, money market assets have surged and are currently comparable to other periods of high volatility like December 2018, October 2014, August 2011, and August 2007 due to the surge in money market assets. 

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In spite of this, Calvasina refuses to take the logical next step: "As we acknowledge in our recent sentiment analysis, fear has approached potential peak levels in recent weeks, however, that does not mean that U.S. equity investors have the green light to go ahead." 

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The reason traders seem so uncertain is not the recession story itself, which is old by now, but the fact that the world economy is on the verge of bankruptcy. Firstly, there is a concern that tighter credit conditions resulting from the banking crisis could prolong and exacerbate the recession, and subsequently, there is a concern that the Fed is unlikely to provide much relief for the markets even if it pauses. 

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There is a large percentage of the market that believes that the Fed will be unable to cut rates later this year because of stubbornly high inflation, which could make the market think that the Fed will not reduce rates at all. 

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According to the Blackrock strategists, they don't anticipate rate cuts this year - that's the old playbook when central banks rushed to save the economy when the recession hit. According to BlackRock Investment Institute strategists, including Wei Li, in a client note reported by Trade Algo, inflation will be curbed in a more nuanced manner in the near future. There will be less fighting, but there will still be no rate cuts. 

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I have always been interested in knowing why the market has survived these tough times. Surprisingly, forward 2023 earnings estimates for the S&P 500 have not declined for the past month, despite the declines in recent months. 

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As for the leading indicator, nobody seems to be heeding the warnings given by that indicator either. This is because traders are now awaiting the next shoe to drop - analysts may have to reduce earnings due to the bank's inability to lend. 

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The only thing is, along with the long-awaited recession, all of this new worry may or may not show up in the form of earnings in the near future.