Rising Investor Pessimism Is a Contrarian Indicator
“Bull markets are born on pessimism, grow on skepticism, mature on optimism, and die on euphoria.”
Those words are often attributed to Sir John Templeton, the legendary investor and mutual fund pioneer who founded the Templeton Growth Fund. While it’s not clear Templeton actually spoke that exact phrase, it succinctly captures the approach that led his fund to be one of the most successful investment vehicles of the 20th century.
If Templeton had not shuffled off this mortal coil in the summer of 2008, he would likely be a buyer now. The latest survey from the American Association of Individual Investors (AAII) finds that individual investors are at their most bearish since November 2023, with 47.3 percent of respondents saying they are pessimistic about stocks over the next six months and just 28.4 percent bullish.
To put that in perspective, the historical average is 37.5 percent bullish and 31.0 percent bearish. A month ago, 43.4 percent were bullish and 29.4 percent were bearish, so there has been a surge in pessimistic sentiment.
The AAII has been surveying investors weekly for more than 35 years. Perhaps the most important lesson from all those years of surveys is that investor sentiment is typically a contrarian indicator. The best time to buy stocks is typically when bearishness is high and bullishness is low.
The most recent example of this can be seen in the market performance following the last high in bearishness in November 2023. Over the next six months, the S&P 500 returned 21.5 percent. If we expand the time horizon to 12 months, the S&P 500 rose a staggering 50.5 percent from November 2023. Only two months out of the 12—April and October—saw declines.
Fund Managers Are Bullish—But Not So Much on U.S. Stocks
While institutional investors are still bullish, according to the Bank of America Global Fund Manager Survey, they are getting worried about the U.S. stock market. Eighty-nine percent say U.S. stocks are overvalued, the most since April 2001. Thirty-four percent say global stocks will be the best performing asset and 22 percent like gold. Just 18 percent say they expect U.S. stocks to be the best performers.
One of the drivers of fear right now is very clearly a global trade war. Forty-two percent of the managers in the fund manager survey say this is the biggest risk right now, up from around 30 percent a month ago. Fifty-eight percent say gold would be the best performing asset in a trade war.
If Trump’s reciprocal tariffs create a path toward a freer and more sustainable global trading environment—as we have been arguing is likely—these fears are likely to subside. We expect this will fuel a rally in U.S. stocks.
There’s still plenty that could go wrong, of course. Perhaps the biggest risk is that Capitol Hill lawmakers could bungle the budget by failing to make the Trump tax cuts permanent. Last year’s ill-conceived cuts by the Federal Reserve could push inflation higher, forcing the Fed to raise rates. Federal courts could stymie the Trump administration’s growth agenda, at least for a while.
A wise man once said that the best investors buy from pessimists and sell to optimists. What the surveys are suggesting is that there are plenty of pessimists to buy from now.
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