This blog post originally appeared on RealMoney Silver at 7:37 a.m.
I have consistently pooh-poohed the notion of a "negativity bubble" that I have read about on
and elsewhere for the last year. It was not founded in rigorous analysis, but the message was simply delivered by the dual and dangerous biases of partial and confirmational observations.
Stated simply, markets don't typically crack in the manner they have in the last six weeks when bearish sentiment is pervasive.
No way, no how.
Milton Friedman once wrote that fundamental crisis produces change. Now the bad news is getting badder, and many of the permabull economic stalwarts are quickly retreating. Amid the deteriorating news, there's been no clearer change than what has occurred in sentiment over the past month.
Consider the following gauges of sentiment:
- Net long hedge fund exposure has plummeted. Like bank trust departments in the early to mid-1970s and mutual funds in the mid- to late 1990, hedge funds are today's most dominant investors. According to Ed Hyman's ISI Survey, hedge funds' net exposure has dramatically dropped from a near record high of 61% to only 42.7%, the lowest level in over four years.
- Individual investors, too, have turned to the exits. According to the AAII survey, individual sentiment is now as bearish as at the intermediate low of summer 2006 and at the primary low of March 2003. Small investors put-buying and short-selling has risen parabolically over the last month.
- Consumer confidence makes new lows. In fact, confidence is now at the lowest level seen since the other real-estate-induced recession in 1992.
- Market oscillators are now indicating a dramatic oversold. I rely on Helene Meisler's data in reaching this conclusion. Check out the article here -- just look at the overbought/oversold readings in her latest missive for NYSE and Nasdaq issues.
Other markets might also temporarily reverse when markets reach extreme levels (read: oversold or overbought); the consensus always seems convinced that the existing trends will continue. This also raises the notion that several other "clear" trends might be vulnerable to interruption and a contrarian interpretation.
Some of those trends, in which sentiment and velocity of price action potentially dictate a contrarian trade, might include fading the general optimism that the march of oil will continue to $100 (and higher), a healthy skepticism that the uninterrupted death spiral of the U.S. dollar will never stop, and suspicion that the precipitous drop in U.S. Treasury yields will continue ad infinitum.
In summary, I am in the negativity bubble camp now (what strange bedfellows!) because I see it statistically.
And the sentiment extreme, now in place, may sow the seeds for a
tradeable year-end stock market rally
and a temporary reversal of some too-accepted trends in energy prices, currency and interest rates.
Doug Kass is founder and president of Seabreeze Partners Management, Inc., and the general partner and investment manager of Seabreeze Partners Short LP and Seabreeze Partners Short Offshore Fund, Ltd.