AAII Investor Update: The Frustrating Market

Thursday, July 5, 2012
Charles Rotblut, CFA
AAII Journal Editor

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Sentiment Survey

This week’s AAII Sentiment Survey results:
  Bullish: 32.6%, up 4.0 points
  Neutral: 34.0%, up 7.1 points
  Bearish: 33.3%, down 11.0 points

Long-term averages:
  Bullish: 39%
  Neutral: 31%
  Bearish: 30%

Take the AAII Sentiment Survey »

In writing the opening comments for the July AAII Dividend Investing monthly newsletter, I discussed how the market’s performance this year has been better than most investors probably think. As of June 29, the S&P 500 index has a price gain of 8.31% and total return of 9.49% for the year-to-date.

If your portfolio’s performance is not quite as good, don’t feel bad. The volatility over the past six months has, at times, made it difficult to figure out which side is up. It’s certainly made it more challenging to figure out what sector to rotate into and what sector to rotate out of.

Take the year’s second and third best-performing sectors, for instance. Financials and information technology have year-to-date gains of 12.63% and 12.71%, respectively, according to S&P. Yet, during the second quarter, financial stocks lost 7.27% and technology stocks lost 6.96%.

What about the year’s best-performing sector? Well, to realize telecom services’ 13.34% year-to-date gain, you would have had to sit through a lackluster first quarter while Mr. Market was handing out party favors to investors in other sectors.

Seeing sector rotation is not unusual, but when it is combined with global uncertainty, the potential for making mistakes is heightened. This is particularly the case for those of you who were already frustrated with the market heading into 2012. When the returns of the major indexes are better than those of your portfolio, the temptation often is to change something.

If this describes you, don’t be quick to assume that you need to change anything. Investing styles move in and out of favor over the short term. A strategy with a good long-term track record may underperform over a period of several months or longer, depending on market conditions. If it is based on sound characteristics (reasonable valuations, financial strength, growth in sales and earnings, etc.), it should go back to working well as long as you stay disciplined, conduct proper analysis and don’t make investment decisions based on emotions.

If you follow a strategy that incorporates price momentum, realize that such strategies are inherently volatile. Thus, you need to understand what the sell rules are and stick to them. There is nothing wrong with using momentum, as long as you look past what is simply hot right now and focus more on the stocks with the fundamental characteristics to justify a higher price in the future.

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The Week Ahead

Alcoa (AA) will “officially” start second-quarter earnings season when it reports on Monday. Fellow Dow component JPMorgan Chase & Co. (JPM) will report on Friday. Joining them will be a handful of other S&P 500 companies, including Marriott International (MAR) on Wednesday and Wells Fargo (WFC) on Friday.

The week’s first economic data of note will be June international trade and the minutes from the June 2012 Federal Open Market Committee meeting, both of which will be published on Wednesday. Thursday will feature June import and export prices. The June Producer Price Index and the preliminary University of Michigan July consumer confidence index will be published on Friday.

The Treasury Department will auction $32 billion of three-year notes on Tuesday, $21 billion of 10-year notes on Wednesday and $13 billion of 30-year bonds on Thursday.

AAII Sentiment Survey

Bearish sentiment fell to a nine-week low in the latest AAII Sentiment Survey, while both bullish and neutral sentiment rose.

Bullish sentiment, expectations that stock prices will rise over the next six months, rose 4.0 percentage points to 32.6%. Even with the increase, optimism remains below its historical average of 39% for the 14th consecutive week.

Neutral sentiment, expectations that stock prices will stay essentially unchanged over the next six months, spiked 7.1 percentage points to 34.0%. This is a nine-week high for neutral sentiment. The historical average is 31%.

Bearish sentiment, expectations that stock prices will fall over the next six months, plunged 11.0 percentage points to 33.3%. This is the lowest level of pessimism since May 3, 2012. Even with the drop, bearish sentiment is above average for the ninth consecutive week and the 12th week out of the last 13 weeks.

The recent bounce to a two-month high in stock prices lessened the glum our survey has been indicating, but not so much that individual investors can be described as being sanguine. Worries about the pace of U.S. economic growth and Europe's sovereign problems continue to weigh on sentiment.

This week's special question asked AAII members if the Supreme Court's decision to uphold the health care law impacted their sentiment toward stocks. The results were mixed, with the largest number of respondents saying the ruling did not alter their sentiment. The second-largest number said it made them more bearish, while the third-largest group said the ruling made them more bullish.

Here is a sampling of the responses:

  • “Not much impact. We'll have to wait and see what happens. It does, however, change the way I see the elections.”
  • “The Supreme Court's decision brings some closure to the matter. I believe it will have mixed effects.”
  • “It has not impacted my sentiment. I am more concerned about the fiscal cliff looming ahead.”
  • “Negatively. This is a higher tax on investment income and moves us further from solving economic problems.”
  • “I see the ruling as a strong positive for the markets, though I think it will take some time for the impact to be felt.”

» Take the sentiment survey

AAII Asset Allocation Survey

June Asset Allocation Survey

Stocks/Stock Funds:
    58.8%, down 0.9 points
Bonds/Bond Funds:
    21.3%, up 0.4 points
    20.0%, up 0.6 points

Asset Allocation details:
    28.3%, down 2.0 points
Stock Funds:
    30.4%, up 1.0 points
    5.6%, up 0.3 points
Bond Funds:
    15.7%, up 0.1 points

Take the survey »

Fixed-income and cash allocations rose slightly, while equity allocations declined in the June AAII Asset Allocation Survey.

Stock and stock fund allocations declined 0.9 percentage points to 58.8% last month. This is smallest allocation to equities since December 2011. It is also the second consecutive month that equity allocations have been below their historical average of 60%.

Bond and bond fund allocations rose 0.4 percentage points to 21.3%. This is a four-month high for fixed-income allocations. It is also the 36th consecutive month that fixed-income allocations have been above their historical average of 16%.

Cash allocations rose 0.6 percentage points to 20.0%. Even with the increase, cash allocations were below their historical average of 24% for the seventh consecutive month.

AAII members trimmed their exposure to equities for the third consecutive month due to concerns about the pace of economic growth in the U.S. and developments in the European sovereign debt crisis. Though individual investors are displaying short-term pessimism in our sentiment survey, they have not been making large changes to their portfolios. Rather, equity allocations have declined by less than two percentage points over the past three months. Low current yields and worries that interest rates could move higher in the future continue to leave many investors frustrated about their choices for income-producing investments and have caused some to use dividend-paying stocks for portfolio income.

This month’s special question asked AAII members if they recently changed their exposure to foreign securities. The overwhelming majority of respondents said they have not. The primary reasons were that international assets only accounted for a small portion of the total portfolio, a feeling that U.S.-based multinational companies provided enough exposure to foreign markets, or because they previously reduced their exposure to international securities. A small minority of respondents said they recently increased their international exposure, and an approximately even number said they recently reduced their exposure.

Here is a sampling of the responses:

  • “I have not changed my exposure to foreign securities because they make up a small percentage of my entire allocation.”
  • “No change. I have always had and will continue to have very limited exposure to foreign securities.”
  • “I avoided investing overseas directly for some time. Multinationals provide enough exposure.”
  • “I have always had and will continue to have very limited exposure to foreign securities.”

» Take the Asset Allocation Survey

Wishing you prosperity,

Charles Rotblut, CFA
AAII Journal Editor