Survey says ‘Investor complacency is high’

Survey says: ‘Investor complacency is high’

January 27th Financial Post column:-

Financial Post & Pacifica Perspectives

In the investment industry, there is never a shortage of data or opinions. Often times, the same data can support more than one opinion. One of the more intriguing pieces of data that makes the rounds is the American Association of Individual Investors (AAII) Sentiment Survey.

The true value of this survey is that it provides insight into the psychological leaning of the survey respondents that are generally comprised of everyday investors. Historically, extreme divergences between bullish and bearish respondents have often coincided with either sharp movements in the stock markets or market returns that are contrary to what the masses were expecting. Currently, just over 50% of respondents are bullish and about 20% are bearish – with the remainder being in the neutral camp. From the accompanying chart we can see that recent AAII survey data is showing a fairly strong bullish (optimistic) tint and the bears (skeptics) are few and far between. The last time the Bulls to Bears ratio was this spread out was October 2007.

Cross Border Investment Management

As history has often shown, times such as this should sharpen investor focus to watching out for risks that might be coming in off of the horizon. A second gauge of fear and complacency that is often used is the Volatility Index (VIX). The VIX is a measure of investor expectations of volatility – in either direction. Leaving aside the vagaries of how the VIX is calculated, low VIX readings will register when investors anticipate muted markets. Conversely, high VIX readings imply that investors expect markets to move sharply.

We can see from the following chart that the low VIX signals that investors are fairly complacent. Since the peak of the European PIIGS crisis last year, the VIX has been making its way steadily lower. In short, investors expect calm markets. However, the chart shows that a low VIX can often coincide with turning points in the markets.

January 2011 Investment Strategy Notes

Complacency has often preceded market declines and a shaking of investor confidence. So investors should be cautious when deciding whether or not to increase their allocations to equity markets. Perhaps a better buying opportunity could emerge once fear has risen. After all, the objective is to “Buy Low and Sell High”. Too often, investors have been lulled into rising markets once the fear has dissipated. Put another way, too many investors like to buy when all the clouds have parted.

Professional money managers are also increasingly confident. The fears of a double dip recession are long gone and the majority “expect double digit returns” for this year. Recent data indicates that mutual fund cash balances are at or near a record low as the overwhelming fear is that “they do not want to miss out on the rally”.

The above points are not meant to diminish the underlying strengths of the economic rebound or the stock market itself. Instead these points are meant to emphasize that periods of complacency are often replaced by periods of fear. Not that they will – but when there are seemingly low hurdles of worry for investors, the markets have a history of replacing investor complacency with fear. The problem is that too often – too many investors are not well positioned to profit from market volatility.

Legal Disclaimer

This report is for information purposes only and is neither a solicitation for the purchase of securities nor an offer of securities. The information contained in this report has been compiled from sources we believe to be reliable, however, we make no guarantee, representation or warranty, expressed or implied, as to such information’s accuracy or completeness. All opinions and estimates contained in this report, whether or not our own, are based on assumptions we believe to be reasonable as of the date of the report and are subject to change without notice. Past performance is not indicative of future performance. Please note that, as at the date of this report, our firm may hold positions in some of the companies mentioned.

Copyright (C) 2011 Pacifica Partners Inc. All rights reserved.

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