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Stock market and investor sentiment readings

The incoming earnings releases, the Fed's ongoing battle to contain inflation, jobless claims, and the impending debt ceiling fight have led to erratic daily price swings in the stock market.


The United States government hit the debt ceiling on 1/19/23. The fear of the federal government defaulting on its obligations has driven market volatility in past occurrences. However, since the default deadline is months away, investors have not yet priced this event into current stock market prices.


Although the Fed may be closer to the end of its rate-hiking cycle than the beginning, additional increases are still likely. Two more 25-basis point hikes in the next FOMC meetings may still impact the economy and interest rate trends.


The financial markets continue to digest the economic implications of the robust labor report, monetary policy decisions from the Fed, and persistent inflationary pressures.


Some economists believe the U.S. economy remains in a rolling recession, with high-end consumer discretionary spending and housing markets already firmly entrenched in a recession. But robust job numbers and unemployment rate served as a positive offset.


The stock market remains a leading indicator and, as such, leads economic peaks and troughs months and quarters in advance of the pivotal turns. Although it is difficult to know if the bear market is over, the economy has already experienced economic pains, inflationary pressures, and a stock and bond market bear decline for more than a year.


The SPX 27.54% bear decline from Jan-Oct 2022 may have rebounded from pivotal support, coinciding with the middle of the 2009 uptrend channel (now at 3,659). If the mid-Oct 2022 low at 3,491.58 is a bottom, does this imply the structural bull from May 2023 (breakout above 1,576) remains intact?


Would this also lead to a retest of the mid-August reaction high of 4,325.28 and above this to Jan 2022 all-time of 4,766/ 4,818.62) and then 5,390 (top of the 2009 uptrend channel)?


On the downside, a violation of 3,659/3,491.58 warns of a decline to 3,107 (bottom of the 2009 uptrend channel).


Market sentiment or investor sentiment is another critical market indicator. According to behavioral finance, sentiment readings play a role in investment decisions, risk management, asset allocation, and asset valuation/pricing. Changes in investor attitudes can cause stock price movements, including volatility swings and trend changes, at least on a near-to-intermediate-term basis.


Retail trading sentiments, as represented by the weekly AAII bull/bear survey, show mixed readings.


Optimism among individual investors in the 6-month direction of the stock market, as represented by the AAII Bulls (37.50), jumped to the highest level in more than a year. At a current level of 37.50, it is trading at its historical average (data since 1987) as it nears the mid-point of its range at 40, suggesting a Neutral investment sentiment reading.


The neutral camp's sentiment reading also jumped to 37.5% from the mid-30s from the previous three weeks, placing it above the historical average of 31.5%.


The AAII Bears (25.00) continue to fall, declining below its historical average (31.0%) as it nears oversold reading in the mid-teens, suggesting the bearish camp has retreated.


The spread between the AAII bulls and bears (12.50) is above its historical average (6.6%) as it enters the mid-point of its trading range or Neutral reading.


The rebound in stocks since the beginning of the year and a less aggressive Fed monetary policy may have contributed to the improved retail optimism.


It will be interesting to see what will happen when SPX nears the mid-Aug 2022 reaction high of 4,325.28.


Source: Chart courtesy of StockCharts.com and the American Association of Individual Investor

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