Now that cash holdings are beating the stock market gains for 2018, “Goldman Says It’s Time for Equity Investors to Boost their Cash”. Headlines from Goldman Sachs, Wells Fargo and many analysts warn that investors should not Buy the Dips and remain defensive.
Anecdotally this is one of the more Alarmist mantras we have heard in years. The perspective by these esteemed analysts is the lack of panic and need for more Put option buying, a much higher volatility index (VIX>35) and some indiscernible degree of wholesale panic are required before it’s safe to haul cash out of the foxhole and add equity exposure.
The irony is that so many professionals claiming a need for more pessimism is a hint that extreme pessimism is already here. If the experts are so Bearish as to dismiss the 11% correction we just had as being too complacent, then maybe these Bears have already sold and have become too negative. The concept of contrary opinion holds that if the majority have one view then the opposing view will prevail. The masses never realize that negativity and selling have reached a climax when it finally happens, which greatly increases the odds that a new rally is near.
CNN’s Fear and Greed compilation of indicators certainly counters the notion that extreme Fear is absent over the past month. Only a few brief spikes in this index have ever registered more Fear in its 8 year history. Historically after a 10+% correction with this index in the oversold zone under 20 for over a month, we typically witness higher stocks in the next 1 to 3 months.
A survey of Chief Financial Officers (CFO) is also more fearful than in same sized correction back in February. Despite the almost 12% correction in the SP 500 and over 16% in the tech-heavy Nasdaq, most CFO’s expect the next 2,000 points to be lower before we go higher.
Traders and hedgers buy more calls in expectations of higher prices and purchase more put options when expecting lower prices. We always see extreme Put buying at stock market lows. How low is low we can never now exactly as each correction is of a different amplitude and psychology. However, there is no denying that the Put/Call ratio reveals the most negative reading in over 15 months and the 3 standard deviation move from optimism to pessimism correlates with previous correction lows. Trader Put option buying has room to rise still further, especially if US and China trade talks reach a new level of dysfunction at their early December meeting triggering more downward revisions to 2019 earnings expectations.
