US Markets: Almost due for a rebound

Unlike previous trend based analysis, this call is based purely on sentiment. And in my experience, sentiment is THE factor that rules the markets, causes waves, patterns and trendlines.

Here i attach a chart of the Bull/Bear Ratio, courtesy of Investors Intelligence:





Notice the plunge in sentiment off the highs, caused by the rapid selling in such a short span(a surge of FEAR). Generally, the more bullish ordinary folks are, the higher chances of a bear market. With the ratio plunging to almost half its value, it is hard to forsee a precipitious drop from here. It might be scary tonight at the open, but i suspect it wont get any worse over the week(low probability). To add to that SPX500 seems to be completing 5 small waves very shortly.

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As an aside, note the previous high for this indicator was around Nov07, just after the peak of the bull market. And guess where was the lowest of lows? We could be forgiven for assuming it would be at the March09 lows! It was in fact sometime in Nov08. As is well known in Elliot Wave Theory, the peak of the pessimism actually happens in Wave 3, thus causing a divergence between sentiment and prices in wave 5.

Now for the exciting part. Let us assume this Jan10 top was the top of the current bear market rally from last March(if that is what it is). If we extrapolate the above logic to the current drop: In the rebound to come, the BBR ratio should reach close to the Jan highs if not exceed it while the price stays below. However, do note that this may only happen at the rebound at one higher degree. Meaning, a rebound off a 5 wave decline below SPX 1000 range. That would be a beautiful divergence to confirm the medium term top.

Before we get excited and start using this ratio as the 'ultimate' trading tool, let me conclude that sentiment does not share a linear relationship with stock prices. Different extremes can be reached at differing degrees of market waves, and one needs a close examination of previous market cycles in order to use this ratio as a predictive tool with any degree of success.

I will, of course update the blog with sentiment analysis if we do get sub-1000 on the SPX in 5 waves and rebound. Meanwhile, hang in there amigo!