Before the positive PPI and CPI numbers this week, the market had a rough start to the year, with rising rates and declining participation. As a result, the AAII Sentiment Survey Bull-Bear Spread turned negative last week and continued to decline with this week’s survey (collected from 1/9 to 1/15).
For those who don’t know, the American Association of Individual Investors (AAII) surveys its members each week about the stock market’s direction over the next six months. The response choices range from up (bullish), no change (neutral), to down (bearish).
Last week’s survey showed only 25.4% of respondents with a bullish outlook compared to 40.6% with a bearish outlook, resulting in a spread of -15.2%. This level is in the bottom 12% of all historical surveys.
While it’s not a record low, it’s still a significant deviation from recent trends; before the last two weeks, it had been 441 days since we last saw two consecutive negative sentiment readings. That’s the fourth longest streak since the surveys began, with the other three occurring in August 1996, August 1998, and May 2000. With investor sentiment now in bearish territory, should we take that as a sign of worse things to come for the market?
To answer that, our friends at NASDAQ Dorsey Wright placed each sentiment spread in one of ten deciles and computed the average forward return for those groups. For example, today’s level of -15.2% would be in the second decile, between the tenth and twentieth percentile.
I don’t consider sentiment to be a primary indicator but when looking at the data, negative sentiment extremes are positive for the market. Conversely, high sentiment periods bring about more muted returns, especially at the extremes. This makes sense when considering that bullish sentiment is more likely in overextended markets, while bearish sentiment is more common during pullbacks—like we’ve seen recently.
Today’s spread in the second decile suggests investors can expect above-average returns according to historical instances, especially over the next six months.
The recent decline in participation and the rise in yields present challenges for the market, but the increase in bearish sentiment early in 2025 isn’t necessarily a bad thing.