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Jittery investors want to know if the long bull market is coming to an end. Here is one sign stocks still have room to run: Advisers who try to predict the market's short-term price swings are all too ready to turn bearish.
That may seem like a backward way of looking at things. But share prices have shown a striking tendency to do the opposite of what a certain type of retail-oriented investment adviser thinks the market is about to do.
These so-called short-term market timers are distinguished by their focus on a horizon that is no longer than a few months at most. Their approach is different from advisers who recommend maintaining a steady level of equity exposure or change their suggested allocations to stocks infrequently.
In early March, when the stock market was near its high for the year, a group of 42 of these market timers tracked by the Hulbert Financial Digest recommended on average that clients hold 66% of their equity-oriented investment portfolios in stocks and the remainder in cash.
Today, those same market timers are on average telling clients to put only 38% of those portfolios into stocks. This large shift in sentiment comes amid a period of volatility that included the steepest weekly decline in the S&P 500 (.SPX) in nearly two years.
A subset of advisers who focus on the technology-heavy Nasdaq Composite Index (.IXIC) was particularly skittish. In March, those 16 advisers recommended investors have 94% of their portfolios in stocks. Now, in the wake of a pullback in the tech sector, they recommend clients have negative exposure to stocks — suggesting, in effect, an aggressive bet that stocks will fall.
That sharp of a drop in bullish sentiment is rare, and would be reason to get out of stocks if it were right. The problem is that in the three decades in which the Hulbert Financial Digest has tracked the consensus sentiment of short-term market timers, similar plunges in their recommended allocations to stocks have been followed by 2% gains in share prices over the subsequent three months, on average.
The track record of these kinds of advisers when they recommend doubling down doesn't necessarily inspire confidence, either. When stocks dropped an initial 10% after the Internet bubble burst in March 2000, the market timers recommended boosting stock allocations by 23 percentage points, on average. But the market kept going down for some time.
That was stubbornly held bullishness, and not at all similar to what we have seen lately. On the contrary, the short-term market timers over the past month were quite eager to jump off the bullish bandwagon on which they sat as recently as early March. Their bullishness then masked underlying worry.
Worry, in fact, has played a prominent role throughout the bull market that started in the depths of the financial crisis — and not just among advisers. Ordinary investors were still pulling money out of stocks years into the rally, fearful that another market disaster loomed.
To be sure, the current bull market won't last forever. Other indicators are flashing bearish signals. Corporate insiders, for example, are more pessimistic than they have been in decades, by some measures. Common valuation measures such as price-to-earnings ratio show stocks are at least moderately overvalued. And in terms of sheer longevity, the bull market is getting long in the horns.
But those factors are of greater concern for the long-term. Market sentiment is a more reliable guide to the short term, and that — properly interpreted — is what suggests that the bull market, while perhaps old, is still very much alive.
The potential for sentiment and reality to differ underscores the value of a contrarian view, of the kind billionaire Warren Buffett expressed about a decade ago, when he wrote that investors aiming to time the stock market "should try to be fearful when others are greedy and greedy only when others are fearful."
Investors inclined to give the aging bull market the benefit of the doubt for at least a while longer may want to overweight those stock-market sectors that have performed the best in the months immediately before past market peaks, including consumer-focused and health-care stocks.
Exchange-traded funds benchmarked to those sectors include the Consumer Discretionary Select Sector SPDR (XLY), which charges annual fees of 0.16%, or $16 for every $10,000 invested; the Vanguard Consumer Staples ETF (VDC), with annual fees of 0.14%; and the iShares US Healthcare ETF (IYH), with fees of 0.46%.