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AA Aye Aye



The most recently released sentiment survey results from AAII (American Association of Individual Investors) showed the largest spread between bulls and bears ever seen in the history of the survey, which goes back to July 1987. Although there have been fewer bears (three times) and more bulls (one time), we've never seen such a discrepancy during the same week. While there are some little-known reasons to cast a wary eye on this survey, it has proven to be a useful contrary indicator at the extremes, and should continue to be so.

This is the now the third major survey to show nosebleed levels of bullishness. The table below shows how the S&P 500 performed over the course of the next one and two months after each of the 10 weeks which showed the most bullishness from this survey. In the table, "maximum" refers to the largest gain the S&P was able to muster from the time the reading was released, while "minimum" corresponds to the largest decline seen during the following one month (21 days) and two months (42 days).

(note: the survey dates are given as of Fridays, not Wednesdays)

We can see that although the market was able to make some headway in most of the cases after the readings were released, the upside was generally limited. However, there were several cases of very large declines soon afterward. The average maximum gain was significantly smaller than the average maximum decline, especially if we go out two months.

It should be noted that with a small sample size, limited history through various market cycles and a cluster of readings around similar points in time, there is not enough information here from which to base a trade. But these results tell us that as far as this survey is concerned, historically the risk/reward is shifting to the downside.

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