Editor’s note: This is the second of two articles covering stock market sentiment measures. Read the first.
Sentiment analysis at its root quantifies investor optimism and pessimism and can help investors make decisions at the market’s emotional turning points. Investors generally interpret sentiment measures from a contrarian perspective, meaning they assume that high levels of bullishness, or optimism, could warn that a market top is forming, and conversely, that extreme levels of bearishness, or pessimism, could signal that a bottom is near.
The CBOE Volatility Index (VIX) and the some 30 different volatility indexes in the Chicago Board Options Exchange’s product lineup are generally utilized as contrarian indicators—potential clues for when it’s time to go against the crowd.
We covered some of more popular broad market sentiment indexes in Part 1. But that’s only half of the story. Increasingly, sentiment measures—including surveys that ask investors directly what they’ve been up to (and not just how they “feel” about the investing climate) have expanded to focus on retail investors. That’s a subset of the crowd separate from institutional investors and mutual fund managers, who are acting on behalf of clients or performance objectives. After all, retail—also known as individual investors—may operate with smaller accounts, but they are collectively a large and growing market segment that can offer a unique perspective. They have skin in the game, too.
Anticipation: Investor Sentiment Survey
The nonprofit American Association of Individual Investors (AAII) conducts a weekly Investor Sentiment Survey among its membership to measure the percentage of individual investors who are bullish, bearish, or neutral on the stock market looking ahead over the next six months.
The group compares the change in the survey to the month before and crunches a long-term average. So, for instance, respondents for the survey in the week ending April 29, 2015, had become slightly less bullish; 30.8% reported that they considered themselves bullish for the next six months, which was down 0.6 percentage points. Bearish percentages fell, too, down 1.2 points to a total of 22%. That means the biggest change came from those who considered themselves “neutral” on the stock market, up 1.9 percentage points to 47.2%. (The survey notes that totals may not equal 100% due to rounding.)
As context, the survey was taken after a choppy April stock performance—although it was still near record highs for the major indexes. U.S. economic data turned mixed around then, Europe was dealing with lingering Greek debt issues, oil prices rebounded, and Federal Reserve members continued to debate the timing of an interest rate hike.
Actual Positions: Investor Movement
Another indicator for your toolbox is the TD Ameritrade Investor Movement Index®* (IMXSM), which is released the first Monday of the month. IMX tracks holdings/positions, trading activity, and other data from a sample of TD Ameritrade’s 6 million funded client accounts.
IMX differs from a survey-based sentiment index because it tracks what TD Ameritrade Clients are buying and selling and how they are positioned in the markets. In other words, it measures what they’re actually doing, not just what they say they’re doing or plan to do. Each month, the index answers key questions about the select group that’s tracked. Were these retail investors net buyers? Net sellers? What stocks were most actively traded?
"It is a great wisdom-of-the-crowd indicator," says Nicole Sherrod, managing director, trader group, at TD Ameritrade.
Sherrod argues against always using indicators in a contrarian fashion. It’s an "antiquated notion that the retail investor is the dumb money,” she says. “We created this index to debunk that."
In fact, Sherrod says, late-winter trends in the IMX showed that this group of retail investors was ahead of the game; their moves were soon reflected in the broader market’s action. In February, the IMX tumbled to 4.70, a new two-year low reading, which presaged an early- to mid-March pullback in the broader stock market.
"Our customers only very recently became a little more bearish. The February reading showed they actually moved money off the table. They basically felt the market was poised to decline and that is basically what it did," Sherrod said.
Devin Ekberg, content manager at Investools®**, weighs in: "For me, IMX is most valuable in understanding whether retail investors are underinvested or overinvested relative to the trend of the market benchmark."
IMX: Tell Us How You Really Feel
Interested in an alternative stock market sentiment measure? Get notified when Investor Movement Index results are released from TD Ameritrade.