Friday, March 13, 2009

Data Explorers: Generating A Unique Measure of Stock Market Sentiment

Let's say that you were prescient last week and anticipated a market rally or perhaps saw one in the making this week. What stocks and sectors would you want to buy? One way to select candidates for superior gains would be to buy the stocks that were most heavily shorted. Those, after all, would be most subject to short squeezes and short covering rallies.

But how can we obtain short sales data on a timeframe shorter than the monthly data reported by the exchanges? A unique solution is offered by the Data Explorers site, which collects short sales data daily from Custodians and Prime Brokers to help them benchmark their costs. Once Data Explorers has aggregated these data for all stocks, they can create timely reports on how actively shorted a particular stock or sector might be. That creates a potentially useful sentiment measure.

I created the chart above in Excel with last week's data from Data Explorers (not wanting to compromise their current data). You can see that, of the sectors this blog follows weekly, the two that had the largest percentage of shares borrowed for shorting were Consumer Discretionary and Financial. Those, indeed, have shown relative strength during the recent market rally.

These data are of obvious value to hedge funds that trade equities, but also to stock index traders (aggregate all the sectors and you have daily reports on market shorting--an excellent sentiment tool) and even daytraders looking for stocks in play. I like sentiment measures that are based on the actual behavior of traders and investors in the marketplace; the Data Explorer measures are unique in that they tap the sentiment of institutional traders that can move the markets.

Interested traders and portfolio managers might check out the Short Stories blog, which highlights promising findings from the Data Explorer database.