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Intermediate Term Correction on the Horizon?

  • Written by Syndicated Publisher 44 Comments44 Comments Comments
    December 16, 2010

    The S&P 500 rallied just over 20% from the August lows to the highs reached earlier this week, and has rallied more than 6% since the late November lows, but a pullback or consolidation is likely in the cards. Given the strong and persistent move in equities since late summer bullish enthusiasm is running strong which often serves as headway for further market gains. We are beginning to see some signs of an impending intermediate market peak as we have some thinning of the ranks in terms of rally participation. New money may be best served waiting on the sidelines until a correction occurs or bullish enthusiasm is reigned in.


    Some of the best buying opportunities occur when everyone is bearish while the bulls are hard to find. Conversely, some of the best selling opportunities to take some profits off the table occur when everyone is bullish. Below is the American Association of Individual Investors (AAII) retail investor sentiment data in which the spread between the bulls and the bears is graphed below the S&P 500. Currently we are at one of the highest spreads seen over the last three years and as seen below, typically intermediate corrections ensue to bring down over zealous investors. While sentiment has remained elevated for weeks now without a correction, investors should remain alert for a potential selloff.

    Source: Bloomberg

    Another measure of sentiment is options and the ratio of put (bearish bets) to call (bullish bets) buyers. One of the things that many savvy market technicians commented upon for becoming more defensive back in April of this year was the very low put/call reading, which hit the lowest levels in six years. We are not that far from the extreme seen in April and with such strong bullish sentiment it will be hard to see further gains ahead as everyone who is bullish is already likely fully invested and the pool of new buyers is likely to dry up, leading to the next market correction.

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