Is the Stock Market Bubbly?

May 09, 2019 | Elaine Law


Using "investor sentiment" as a contrarian indicator.

Despite a 10-year bull market, the current investor sentiment is still very skeptical. The 10-year bull market has been dubbed “the most hated bull market,” mainly because we have been climbing a “wall of worry” since the market bottomed in March 2009. Some of the concerns that have kept investors up at night over the past several years include The European Crisis (PIGS countries on the verge of bankruptcy), Brexit, trade wars, interest hikes, and slowing economies.

What is investor sentiment like today? The red line in the above chart indicates the levels of bullish investor response. The black line indicates the S&P 500. As you can see, the bullish investor sentiment has been declining (as shown by the blue trend line), even though the S&P 500 has been rising since the market low in 2009.

In fact, there is little need to look at graphs and charts to determine how the market “feels” in general. All you have to do is to ask your peers - when was the last time they were extremely hyped about the stock market, or dying to invest their last pennies in stocks? It was likely in the late 90s, which is reflected by the red ascending line, indicating increasingly positive investor sentiment (on the left side of the chart). The last decade has been categorized by a descending red investor sentiment trend line, indicating that investors are far from being “exuberant” about the bull market. We treat this as a contrarian indicator, which means one should feel opportunistic about investing in the market when others do not (and vice versa). Because of the market skepticism, we think there is still a lot of room for the market to go up. On a side note, it is interesting to contemplate which market Canadians currently feel most enthusiastic about. Given the high level of real estate debt, I would say that it’s the real estate market. This indicates that we are pretty close to reaching “exuberant” levels and are getting closer to the peak, if not already past the peak, as far as the Canadian real estate market is concerned.

Our long-term view on the stock market (months to years) is positive. The Dow Industrials and the S&P 500 have been in bullish uptrends since 2009, and they continue to trade in an overall rising technical channel, which implies further gain potential for possibly many more years. We continue to believe that the U.S. stock market is near the mid-point of a longer-term secular bull market. We expect this market to continue to rise until the economy and business climate become much more improved, along with a more optimistic sentiment from investors and the general population, which, at this time, continues to be largely skeptical and uncertain. Long-term bull markets tend to continue to rise until optimistic sentiment becomes highly elevated among investors and the public. We see the current conditions as being far short of that kind of attitude.