To The Moon

Investor sentiment weakened further last week with four out of the ten markets we follow ending the week in a bearish mood. Investors in China continue to be the exception, turning bullish for the first time since January and providing support for the recent market run.

Global Emerging markets and Asia ex-Japan markets have followed China higher, but sentiment among those investors has declined from bullish two weeks ago to neutral now on worries about the ongoing impact of high US interest rates and the strong USD on corporate borrowers.

Japanese investors have now become bearish for the second time this month, shaving 5% off the (25%) market rally that started in November last year. Similarly, sentiment among UK investors has also become somewhat unhorsed last week, dropping from bullish in mid-April down to neutral, in sharp contrast to the market’s sudden rise in the past ten days and hinting that this rally has probably come about more by accident than collusion. After months of strong returns, the question for both markets now is whether bears have leapt on board this train in sufficient numbers to cause a derailment.

The US economy, powered by ongoing consumer spending, remains strong (the drag on Q1 GDP came from a drop in inventories and strong imports – both signs of strong domestic demand) and inflation continues to be stickier than hoped (PCE for March came in at 3.7% vs 3.4% expected). US investors have gone from needing a strong reason to sell and any excuse to buy in January, to needing a strong reason to buy and any excuse to sell today. Any more of that strong economy nonsense this week, like too few Americans losing their job, and investors will head for the exit (yep, that’s’ their value system now).

Globally, the year began with hopes for six rate cuts by the Fed, starting as early as March, but fast forward to today and the bullish scenario now is “no rate cuts”. The bearish sentiment in four out of ten markets reflects the growing consensus that for the rest of 2024 investors will have to take their whiskey neat.

Potential triggers for sentiment-driven market moves this week

• US: Fed’s interest rate decision and the jobs report along with services and manufacturing PMI data. Earnings from Amazon, Apple, Coca-Cola, McDonalds, Mastercard, and Pfizer.

• Europe: Eurozone inflation data and Q1 GDP growth rate.

• APAC: China PMI data. Japan consumer confidence, unemployment, retail sales and industrial production data.

• Global: Investors remain focused on US monetary policy and the situation in the Middle East where ongoing diplomatic efforts are trying to avoid further escalation in the conflict.

Note: green background = bullish, red background = bearish

Changes to investor sentiment over the past 180 days for the markets we follow:

How to read these charts: The top charts show the ROOF ratio (investor sentiment) in green (left axis), against the cumulative returns of the underlying market in black (right axis). The horizontal red line at -0.5 (left axis) represents the frontier between a negative sentiment (-0.2 to -0.5) and a bearish one (<-0.5), and the horizontal blue line at +0.5 (left axis) represents the frontier between a positive sentiment (+0.2 to +0.5) and a bullish one (>+0.5). Around the horizontal grey line at 0.0 (left axis), sentiment can be considered neutral (-0.2 to +0.2).

The bottom charts show the levels of both risk tolerance (green line) and risk aversion (red line) in the market. These represent investors’ demand and supply for risk. When risk tolerance (green line) is higher than risk aversion (red line), there are more investors looking to buy risk assets then investors willing to sell them (at the current price), forcing risk-tolerant investors to offer a premium to entice more risk-averse counterparts to take the other side of their trade, which drives markets up. The reverse is true when risk aversion (red line) is higher than risk tolerance (green line). The net balance between risk tolerance and risk aversion levels is used to compute the ROOF ratio in the top charts, representing the sentiment of the average investor in the market.

The blue shaded zone between levels 3-4 for both indicators represents a reasonable balance between the supply and demand for risk in the market. Conversely, when both lines are outside of this blue zone, the large imbalance in the demand and supply for risk can lead to an overreaction to unexpected news or risk events.