It’s Been a Tougher Year Than the Headline Numbers Suggest

• A Question of Proportions: How Various Indexes Are Weighted – Because the S&P 500 is market-capitalization weighted, its returns are disproportionately influenced by its largest holdings.
• Charles Dow’s Theory Still Valid for the 21st Century – The relative returns of transportation stocks play a key role in this technical analysis strategy.

The proportion of individual investors who anticipate a decline in stock prices is at a three-month high, according to the latest AAII Sentiment Survey. Optimism, conversely, fell sharply after having reached an eight-month high last week.

Bullish sentiment, expectations that stock prices will rise over the next six months, plunged 15.1 percentage points to 30.6%. Optimism was last lower on August 1, 2018. The drop more than reverses last week’s gain and puts bullish sentiment back below its historical average of 38.5% for the fourth time in five weeks.

Neutral sentiment, expectations that stock prices will stay essentially unchanged over the next six months, rose 4.7 percentage points to 33.9%. Neutral sentiment is above its historical average of 31.0% for the 32nd time in the past 34 weeks.

Bearish sentiment, expectations that stock prices will fall over the next six months, jumped 10.3 percentage points to 35.5%. Pessimism was last higher on July 4, 2018 (39.3%). Pessimism is above its historical average of 30.5% for the fourth time in five weeks.

At current levels, all three indicators are within their typical historical ranges. A bullish sentiment reading below 28.1% would be unusually low.

The majority of this week’s responses were recorded before yesterday’s drop. The survey period runs from Thursday through Wednesday with reminders to participate sent to a rotating group of AAII members every Monday.

Tariffs and the possibility of an escalating trade war remain front and center on the minds of many individual investors. Also influencing sentiment are Washington politics (including President Donald Trump), midterm elections, economic growth, valuations and corporate profits. Some AAII members have been anticipating a decline in stock prices; whether the recent pullback is steep enough to prompt them to act remains to be seen.

Most of this week’s responses were recorded before yesterday’s drop in the major indexes. This week’s special question asked AAII members how, if at all, they’ve recently adjusted their stock investing strategy. More than a third of all respondents (35%) say they have not altered their strategy. Many of these respondents describe themselves as long-term investors. About 20% of respondents say they have altered the type of stocks and/or equity ETFs they focus on, with value and, secondarily, dividend-paying stocks cited the most often. Nearly 19% of respondents are increasing their cash allocations, either directly or by not reinvesting dividends and the proceeds of sales. Other respondents say they are favoring index funds more or increasing their portfolio’s diversification. Some respondents list more than one change, primarily reducing equity exposure and increasing their cash positions.

Here is a sampling of the responses:

• “I have not changed it. I put most of my portfolio into passively managed vehicles with low costs.”
• “Slowly changing to more value-based ETFs and stocks. Also building a cash reserve.”
• “I am slowly trimming my portfolio to make cash available to purchase stocks when they go on sale.”
• “More focus on value, and especially those value stocks that pay dividends.”
• “No change. I’m not a fan of market timing and while I think the Federal Reserve’s rate hikes are bearish, I could be wrong, so I will stay fully invested.”