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The Week Ahead: Why Following the Crowd Can Be a Bad Idea

The stock market punished more of the stock market bears last week as the Dow Industrials, S&P 500, and Nasdaq 100 reached levels that should have hit any conceivable stop loss orders of those who were short. However, many of the longer-term bears do not use a stop, which in my opinion is the fastest way to wipe out an account. Risk on either the long or short side needs to be managed at all times.

This has clearly been a tough year for the investor as the bullishness at the end of 2013 was followed by periods of non-trending price action in market-tracking ETFs like the Spyder Trust (SPY). Even the pros were being chopped up as several who generally avoid the media commented that it was the toughest market they had seen in many years.

In last week’s column, I proposed a dollar cost averaging strategy for several large ETFs that should have been started last Monday. Four more equal dollar investments would be made on 6/23, 7/14, 8/4, and 8/25 (Editor’s Note: the dates have been corrected from last week’s column). I continue to think this is a good way to become invested and lowers the chance that you will be getting in at the top.

One well-known hedge fund manger spooked the market with his comments on May 14 as the Dow lost around 170 points the following day, but bottomed out four days later. He apparently is no longer “nervous” after the ECB rate cut on Thursday. I have also cautioned investors not to follow the crowd or any one advisor. It has always been my goal to help my readers learn how to become their own expert advisor.

The sentiment data from the American Association of Individual Investors (AAII) is released each Thursday and often gives a good reading on what the crowd is thinking. As is the case with most sentiment data, it needs to be combined with other technical measures like the NYSE Advance/Decline in order to identify turning points in the market.

I have noted some of the AAII readings since the bear market low in 2009 when the March 5 survey revealed that only 18.9% were bullish. Those of you who follow the markets may remember that there have been several extremes in sentiment as the bull market has progressed.

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