Sentiment Indicators: The Overlooked Leg of the Investment Stool

Have you ever wondered why stock prices don't always move as expected, even when fundamental and technical analyses suggest they should? This is where sentiment indicators come into play, completing the triad of investment analysis tools alongside fundamental and technical approaches. In this comprehensive guide, we will delve into the world of market sentiment, focusing on its role as a contrarian indicator, various types of sentiment measures, and where to find reliable data sources.

Sentiment Indicators: A Contrarian Approach

Sentiment indicators are primarily used as contrarian tools in investing. The idea is rooted in the understanding that market movements are driven by investors' emotions, which often lead to irrational exuberance or pessimism at extreme levels. One of the most famous quotes on this concept comes from John Bender in Jack Schwager's Stock Market Wizards: "It's not the current opinion on the stock that matters, but rather the potential change in the opinion that matters."

When unsophisticated investors become increasingly bullish or bearish, it may be time to consider taking a contrarian position. For example, if your great aunt, housekeeper, and taxi driver all start talking about their stock market successes, who's left to buy and drive prices up further? On the flip side, when most people you know confess to losing money in the market and swear off investing in stocks altogether, it might be an indication that sellers are running out.

Types of Sentiment Indicators

Sentiment indicators can be divided into two categories: direct surveys of investor opinions and measures derived from observing investor activities. Direct survey-based sentiment indicators include Investors Intelligence, AAII, Market Vane, Birinyi's Blogger Sentiment Poll, and LowRisk.com's Investor Sentiment Indicator. These sources gather data on investors' bullish or bearish views by directly asking them for their opinions.

On the other hand, activity-based sentiment indicators observe what investors are doing rather than what they're saying. This category includes measures such as ISEE (call to put ratio), CBOE Equity Put to Call Ratio, and Public Short Sales data. By comparing these actions with those of institutional investors, you can gain a better understanding of which direction unsophisticated investors are leaning.

Sentiment Data Sources

In terms of sentiment indicator sources, StockCharts.com's Market Summary page offers an excellent snapshot of what's happening in over 100 important markets, sectors, countries, and more. Scroll down to the "Market Breadth" section for a collection of sentiment indicators that include Bullish Percent Indices, TRIN, and VIX data, among others. Each indicator has links to three kinds of charts – click directly on the name of the indicator to access the default gallery view.

Another valuable resource is Market Gauge's Today's Indicators page, which offers a different set of indicators including "Contrary Opinion" data. Additionally, InvestmentTools.com provides Weekly Sentiment Indicators and Short Sales data for further analysis.

Sentiment Indicators: A Contrarian Perspective

Understanding market sentiment is essential to developing a well-rounded investment strategy. While many new investors focus on fundamental and technical analyses, incorporating sentiment indicators as a contrarian tool can help you spot potential shifts in market opinion that may not be immediately apparent through other methods. By staying informed about various types of sentiment measures and utilizing reliable data sources, you'll be better equipped to make informed investment decisions.