Thursday, April 8, 2010

When Does 'Overbought' Approach 'Irrational Exuberance'?

The frustrating thing about 'contrarian' indicators is that overbought indications can persist while the markets continue to rise--or vice versa. At some point the markets become fueled by the forces of an irrational pack mentality. This is when the rug gets pulled out from underneath investors feet. It is during this period that the 'wall of worry' surreptitiously vanishes and investors become giddy humming "Happy Days are Here Again". Complacency and carelessness soon become the salient characteristic of the marketplace.
Currently the market still has walls of worry to climb, although they are becoming increasingly rhetorical rather than substantive. It is when these perceived threats appear to be settled-- causing the press and commentators to look the other way and begin to sensationalize positive news items--that the foundations of the market will begin to rumble, rousing the bear from her self imposed exile. Suddenly the street will once again focus on the bugaboos that have been ignored. Perhaps a bear--when it does arrive--will be relentless and wreak havoc until Wall Street acknowledges and assumes responsibility for the peril it has placed our society in.

Below are two charts that are contrarian in nature. The major top in 2007 came after an extended period of excessive bullishness. As can be seen the market is just beginning to enter into an over-extended state. It is at this stage of a market campaign that investors become complacent and careless-- in some cases narcissistic. It is time to be prudent and to keep a watchful eye on the currency, metal and bond markets.

55 Day Moving Average of the 'TRIN'

ISEE Equity Call-Put Ratio

One thing can be fairly certain during the euphoric stage of a market advance: The public will become enthralled with a specific asset class and savings will be invested in the 'appropriate' investment vehicles. In 2000 it was Hi-Tech--in 2007 investment funds were focused on real estate--lamentably much of the invested money was highly leveraged--remember NINJA mortgages. As has always been the case--the public get fleeced just like sheep do once they are penned. What cliff are the lemmings running towards today? U.S. BOND FUNDS!

Considering the topic of last night's blog and the discussion in this blog, it is a good time to be exceptionally attentive of the bond market. If the Bond market does get into trouble at some point, plenty of things can go wrong--especially now that the public money is committed.
For a great discussion on this topic check out
US Retail Investors’ Love Affair With Bonds Continues at Traders Narrative.
chart compliments Trader's Narrative

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