May 21, 2000
NYTIMES
STRATEGIES
The Bullishness That Isn't Bullish
By MARK HULBERT
LAS VEGAS -- In the hands of many investment advisers, contrarian analysis has become the occasion for no end of shoddy thinking.
At last week's Las Vegas Money Show, I heard many a market guru invoke contrarian analysis to argue that, because he alone believes in his particular forecast, it therefore must come true.
Of course, the advisers cannot all be right; their forecasts go every which way. The whole thing reminds me of a war in which all the factions claim that God is on their side.
The kernel of truth embedded in contrarian analysis is that the market rarely follows forecasts that are very widely held. Bull markets typically end, for example, once everyone becomes convinced that the market has nowhere to go but up. That is the origin of the old saw about bull markets liking to climb a wall of worry. Similarly, bear markets generally come to an end when everyone has turned bearish.
Shoddy thinking is introduced when advisers try to transplant this kernel of truth into a particular market-timing strategy. The biggest mistake is expecting contrarian analysis to always yield a forecast about the market's direction. Most of the time it cannot, because extremes of bullishness or bearishness are relatively rare. In ambiguous times, contrarians must be silent.
Market gurus are paid not to be silent, so that limitation is a major inconvenience. As a result, contrarian advisers have a habit of detecting extremes even when they aren't there. For example, about half the so-called contrarians I heard here asserted that advisers on balance were extremely pessimistic; the other half were sure that extreme optimism prevailed.
Neither side is right, judging from the nearly 200 investment newsletters tracked by The Hulbert Financial Digest. On average, these letters are recommending that subscribers allocate 55 percent of their equity portfolio assets to long positions in stocks, with the remainder in cash. Over the last two decades, the long-position average has been as high as 83 percent, and as low 9 percent, so the consensus of these advisers is only moderately more bullish than the midpoint of the historical range.
In times like these, when market sentiment is far from extreme, contrarians would do better to watch how advisers react to corrections. The analysis won't yield a precise prediction, but it will reveal much about the underlying health of the market. It's a sign of strength when the advisers, on balance, quickly become bearish during a correction, but cause for concern when they react bullishly.
onsider the reactions over the last 18 months among a group of particularly sensitive market timers -- newsletter editors who communicate with subscribers daily and who vary their equity exposure sharply when they switch from being bullish or bearish. I have found trends among this subset to be a reliable early warning system for the market.
Last year, these market timers were quick to jump out of the market at the first sign of trouble. After the correction last fall, in fact, the average timer in this group became incredibly bearish, recommending that 83 percent of equity portfolios be allocated to investments that increase in value when the market falls, like mutual funds that sell stocks short. Not surprisingly, the bull market rose briskly in the face of such extreme pessimism.
No such ultrabearishness has swept over the advisers this year. They haven't been extremely bullish, either, but that isn't the point. Significantly, they have not reduced their bullishness in the face of the market's decline -- a downturn that dwarfs the one last fall. In fact, there were days in April when the Nasdaq composite suffered near-record declines and the advisers became more, not less, bullish.
Their sanguine attitude will not immediately doom this long-running bull market, but it is disturbing.
Stubborn optimism in the face of significant declines is more indicative of a market top than a bottom. |
