By Simon Maierhofer
Courtesy Everett Collection
Stocks have been racking up a lot of gains. Investor sentiment has gone from extremely bearish to extremely bullish. Will the gains be followed by pain?
The chart below plots the S&P 500 against six different sentiment gauges. The dashed green line highlights how bearish investors were in January/February (when the Profit Radar Report issued a buy signal at S&P 1,828 ).
The arrows show how much more bullish investors are now compared to January (red arrows indicate VIX and put/call ratio declines, a reflection of bullish sentiment).
Based on investor sentiment, there's significant down side risk. Do other indicators agree?
There is a lot of money flowing into the stock market, which is a positive. In fact, on Sept. 25, the Profit Radar Report pointed out that our liquidity indicator already climbed to new all-time highs, even though the S&P 500 /zigman2/quotes/210599714/realtime SPX -0.82% did not ( detailed liquidity analysis available here ).
The stock market usually follows the money, and when money (liquidity) flows into stocks, stock prices will follow, which is what we've seen the last six weeks.
Back in August, technical analysis strongly suggested a stock-market rally even more powerful than expected at the beginning of the year ( more detail available here ).
On Jan. 31, the Profit Radar Report published the 2016 S&P 500 Forecast with the below projection (the projection is based on four key indicators: liquidity, technical analysis, sentiment and seasonality).
As per the yellow projection, the year-end target was at 2,220, with resistance (Fibonacci, trend line, trend channel) at 2,250-2,290.
The monthly bar chart, going back 20 years, provides some long-term context and explains why the rally has paused around S&P 2,280.
More gain or pain?
Investor sentiment is getting overheated. However, liquidity and technical analysis suggest higher prices sooner or later. Any pullback will likely be temporary. Various resistance levels in the 2,250- 2,340 range may turn trade a bit more choppy. Seasonality is overall positive for the next few months (potential for weakness in January). Take the picture as a whole and the chances for pain would appear to be quite a bit less than those for gain.
A more comprehensive look at the S&P 500 short-and long-term roadmap is available here .