The Importance of Investor Sentiment


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This week's New York Times Style section brought a story about how fashion trends relate to the economic climate. A similar story was published in 2008 when all was going to hell in a handbasket, announcing that longer hemlines were in for the duration of the recession.

This latest article said quite the opposite. Apparently, colorful prints are the new black. As more positive economic indicators come in each week and the stock market continues its march higher, women are tossing aside their drab clothing in favor of bright colors. (Just a thought, but the changing of the seasons from winter to spring might also have something to do with this ... )

According to the Times, these hotter hues--prints especially--signal a recovery ... for the fashion world at least. One woman interviewed in the article was quoted as saying, "People are sick of not shopping."

And that may be true. Last week, I wrote about increasing retail sales and a booming retail stock, Lululemon Atheletica ( LULU ), which hit another new high this week. As the recession fades, it seems that consumers, women especially, are pulling out their wallets for new duds.

Lululemon isn't the only retail stock that's been featured in Cabot Top Ten Report recently. Editor Michael Cintolo also featured the fine clothing retailer Ann Taylor ( ANN ) in early February.  Here's what he had to say then:

"No one will argue that AnnTaylor Stores is a gangbuster of a company, but right now it's following a familiar path for successful retailers during the recession--shake up its product mix, manage sales promotions and clamp down on inventory. That doesn't sound exciting, but the results are beginning to show. Last week, management said that sales for the quarter ending in January were about $470 million and that earnings would be substantially higher than a year ago. That led analysts to significantly bump up their estimates for the next few quarters (they now see 2010 earnings per share of 66 cents, up from an estimate of 34 cents three months ago), although it's fair to note that business in general is still struggling, with sales expected to be flat this year. It's not a good growth story, but AnnTaylor is a turnaround with some potential.

"ANN nearly went bust during the bear market, but it enjoyed a heady run up before settling into a new basing structure last fall. That structure looks like a double bottom (think of the letter W), with the second low undercutting the first low, shaking out the weak holders. Then, last week, ANN surged on huge volume on management's earnings news, setting up a breakout in the days or weeks to come. In total, we think you could buy a little here, and then possibly buy more if (but only if!) you see a powerful breakout above 16.3. A meaningful drop below 14 would be bearish."

And the stock has broken out since Mike wrote that! In fact, Cabot Top Ten Report subscribers are up nearly 60% from the original buy range. It looks like retail stocks have more room to grow, so if you haven't gotten in on any stocks in this sector, there's still time.


As you may know, I have a Twitter account that lets me keep in touch with subscribers and other investors. In addition to "meeting" people that I never would have otherwise, it's also a great barometer for stock market sentiment, which we consider a secondary (but still important) market timing indicator.

This week, people were exclaiming with glee when the market was rocketing higher. Of course, I'm always happy to see the market in the green. But this unadulterated joy made me a little nervous. If you're new to investing this may seem odd. But longtime readers will know that in the stock market, it pays to be contrary.

When the vast majority of investors think stocks will go higher forever, you know they're in for a correction ... or worse. Why?  Because everyone's already bought in!  And when everyone thinks the market is going to sink to zero, you know it's likely to turn positive, as most investors have already sold shares.

This was true both when the market topped in October 2007 and when it bottomed in March 2009. When trends get to such extremes, it takes a disciplined mind to see the exuberance (or misery) for what it really is.

While it's not possible to pinpoint tops and bottoms based on sentiment, contrary opinion can nonetheless help you become a little more conservative near tops and a tad more aggressive near bottoms. And while these small adjustments in your portfolio may seem insignificant, they become a big help to your portfolio performance because they come near market turning points.

As we often say, the market top happens when the last buyer has bought and the bottom happens when the last seller has sold. We don't think we're at a market top right now, but after being in a bull market for well over a year (including an especially huge run since the start of March), we could see a pullback. In fact, the news of Goldman being charged with fraud could be the catalyst that kicks off such a decline. Sentiment will then right itself, preparing the market for another leg higher and so on.

Of course, in the long run, the market is going to follow fundamental factors such as earnings, sales, inflation and interest rates. But in the intermediate-term (one to four months into the future), sentiment has a powerful effect on the market.
Until next time,

Elyse Andrews
Editor of Cabot Wealth Advisory

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

This article appears in: Investing Stocks
Referenced Stocks: ANN , LULU

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