Consumer Sentiment as a Contrarian Predictor

There is much talk in the media and among investors regarding the recent report by Reuters/Michigan Consumers Index Survey - the index plummeted from a reading of 88.3 a year ago to 59.8, the lowest since June 1980. Much of this decline is attributed to rising prices and a slumping domestic economy, which have made American more cautious about spending.  

Consumers are certainly feeling the pain, what about for investors? Historically, the sentiment index has acted as a relatively reliable contrarian indicator for both the real economy and the stock market. 

In 1975 for example, the bear market ended right after the sentiment index had reached its lowest point in decades. There was a similar story in the early 198’0s as the market broke out and entered a secular bull. As the sentiment index topped in the late 1980’s and early 1990’s, the market turned around and entered into a recession. And as the sentiment index bottomed in the mid 1990’s, the market entered into another phase of significant growth until the 2000-2002 bear market. In 2003, the index plummeted again and the market went through another bullish phase. 

As we can clearly see, the consumer sentiment index has successfully predicted many of the long-term ups and downs of the market. For investors, this is a great tool to incorporate into your long-term investment strategies. Although the index is at a 28-year low currently, it does not mean the market or the index, for that matter has bottomed yet. It’s still too pre-mature to make any objective conclusions at the moment. I believe the strategy moving forward is to continue monitoring the index in coming months. As it develops support and shows signs of reversal, then I would consider dumping buy-orders onto the market.  

Disclosure: none

Comments

[karchad:]

This article points out a well-known (or decently known) contrarian indicator, but it bears repeating, especially as CNN repeats it ad infinitum in an attempt to prove that things are heading further downhill (until a Democrat is elected, of course).

2008 Jun 04 06:53 AM

[buyitcheap:]

well said karchad! Do you think the tax increases will improve sentiment? :-) One item to note, no official recession in the latest downturn around that 65 level, does that portend that the official recessionary period is around the corner? One would wonder which drives the other, do people "feel bad" which sets off a recession, or the converse.
Best to all.

2008 Jun 04 07:28 AM

[PCScipio:]

Looking at the chart, seems like we still have a way to go before we hit bottom.

2008 Jun 04 09:22 AM

[adan:]

interesting article

i think you're wrap up point, "Although the index is at a 28-year low currently, it does not mean the market or the index, for that matter has bottomed yet. It’s still too pre-mature to make any objective conclusions at the moment..." is right on

also, if you have any sentiment info dating back to the 20's, so we could see how that contrarian thesis played out during the roaring 20's, then the 30's, that would be really interesting

2008 Jun 04 09:31 AM

[User 143167:]

It is NOT a contrarian but a LEADING indicator.

2008 Jun 04 10:43 AM

[User 205411:]

The chart above shows the UM Sentiment number with recessions, but nobody trades recessions. We trade markets. Here is a link to a chart that shows the entire history of the UM number plotted with the S&P 500.

www.donfishback.com/bl.../

2008 Jun 04 04:50 PM

[NO DooDahs:]

You'd probably enjoy my post from May 29th:
www.billakanodoodahs.c.../

I was all over the contrarian indication of fallen consumer confidence, LAST WEEK.

Welcome to the party, since you're late to it, you should have brought a nice gift.

:)

2008 Jun 04 08:33 PM