Are We On The Edge Of Market Euphoria?
On the same day that Goldman Sachs reported that traders are increasing their protection against volatility, and the VIX call/put ratio has spiked to one of the highest levels since the great financial crisis, Bank of America Merrill Lynch’s regular Sell Side Indicator report proudly proclaimed that “the bulls are back” as its sell-side indicator — a measure of Wall Street’s bullishness on stocks– rose by 2.4 percentage points to 56.4 its highest level since 2011.
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Bank of America’s sell side indicator is based on a proprietary survey of Wall Street strategists that submit their asset allocation recommendations to the bank or to Bloomberg. Using a simple average of the recommended equity weighting for each strategist as of the last business day of each month, analysts compile the indicator to give a measure of Wall Street’s bullishness on equities.
Are We On The Edge Of Market Euphoria?
Historically, research has shown this data to be a reliable contrary indicator. In other words, it has been a bullish signal when Wall Street was extremely bearish, and vice versa. In 2007 the indicator hit a high of around 66% before steadily declining as the financial crisis set in. The previous peak was at the height of the dot-com bubble when the indicator hit 70%. Sentiment hit an all-time low (since 1985) in 2012, plunging to 43.9%. Sentiment has been improving steadily since, and as mentioned above, currently stands at 56.4%, its highest level since 2011. That being said, it seems Wall Street is still cautious on the outlook for equities with a reading of 56.4% below the 15 year average of 57.7%.
Bank of America’s analysts point out that historically when the sell side indicator has been as low as it is today, total returns over the subsequent 12 months have been positive 93% of the time. The median 12-month return is 19%. Past performance is not an indication of future results.
What’s notable about this data is that it marks a return to optimism, from the skepticism that has dominated Wall Street since the great financial crisis. This may not be a good thing. The report notes that this shift in sentiment could “could be the first step toward the market euphoria that we typically see at the end of bull markets and that has been glaringly absent so far in the cycle.”
As MarketWatch points out, BoA’s analysts aren’t the only ones advising caution in the current environment. According to market technician Tom McClellan, a narrowing yield spread between German 10-year bonds, known as bunds and their U.S. counterpart has historically been a bad omen for equity markets.
