Saturday, April 25, 2009

A Valuable Sentiment Indicator is in Bull Mode

Kudos to the excellent Decision Point site for this three-year view of the weighted and unweighted versions of the S&P 500 Index.

When market sentiment is bullish, we see a speculative interest in the smallest components of the index. This interest leads to outperformance of the unweighted index versus its cap-weighted counterpart.

Conversely, when traders and investors are more defensive, they shy away from more speculative names and stick to the most established blue chips. That leads the weighted S&P Index to outperform the unweighted version.

Note how the ratio between the unweighted and weighted indexes (bottom pane) peaked early in 2007, well ahead of the bull market peak in $SPX. The ratio also bottomed in December, well ahead of the March bottom in $SPX. The ratio is currently in a raging bull market mode, exceeding its bull market peak.