Jubak's Journal
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In stocks, fear beats complacency
Two weeks ago, investors seemed surprisingly complacent. But that complacency -- and a mid-February rally -- have vanished together. And thats good news.
By Jim Jubak
Even as stock prices crumbled after the January rally failed on the 14th of that month, investors stayed remarkably optimistic.
For example, short interest on the New York Stock Exchange -- a measure of how many investors were selling stocks short in a bet that stock prices would go lower -- fell in January for the third straight month.
And nearly 50% of the editors of investment newsletters were bullish for the 10th straight week in the Investors Intelligence Survey for Feb. 7.
The complacency was so odd that in my Feb. 12 weekly spot on Business Center, I asked if expectations for a war rally could actually be propping up stock prices.
A dramatic wind shift
What a difference two weeks can make.
The Feb. 14 NYSE report on short interest showed more investors betting that stocks would fall.
The Investors Intelligence Survey of Feb. 14 showed bullish newsletter editors down to 40% of respondents and bearish editors up to 32%.
The Feb. 14 survey of the American Associaton of Individual Investors showed its members going wildly bearish. Almost 60% of individuals were bearish, up from just 26% at the end of January.
No wonder the financial press and Wall Street trading floors are now openly speculating on a return to the Oct. 9, 2002, lows on the major indexes. On that date, the Dow Jones industrial average ($INDU) hit 7,286, the Standard & Poors 500 stock index ($INX) dropped to 777 and the Nasdaq composite ($COMPX) closed at 1,114.
Those Oct. 9 lows are about 7% below the Feb. 25 close for the Dow Industrials and for the S&P 500 -- and a hefty 16% below that close for the Nasdaq composite.
Does the collapse in confidence over the last two weeks mean that stocks will hit those October lows again in what technical analysts call a retest?
Negative momentum does feed on negative momentum as investors react to falling stock prices by selling whatever shares they still own in hopes of avoiding further losses.
And certainly investors are fearful now. The Chicago Board Options Exchange volatility index ($VIX.X) -- a measure of how much investors will pay for an option that protects them from the risk of a market decline -- climbed above 37 on Wednesday. Thats well above the 30 mark that indicates, in the minds of many technicians, a high level of fear.
In comparison, on Feb. 14, 2002, the VIX stood at just 25, well above the 20 mark that indicates complacency but well below current fear readings.
Dont fear fear
But its important to remember that any measure of fear or investor pessimism is a contrary indicator. VIX readings above 30 are a signal that investors are seeing disaster in every bit of news, just as a reading of 20 or lower is a sign that investors are temporarily blind to risk.
Other indicators, too, suggest that the current surge in fear may be building up fuel for a move up instead of down. The UBS Index of Investor Optimism hit 9 recently, its lowest level since the start of the index in 1996. Certainly time to ask if investors are too pessimistic.
Unfortunately, while contrarian indicators such as the VIX have a good record of calling eventual turns in market direction, they dont pinpoint the moment of that turn. The VIX can and has climbed well above 35 -- to 50 or 60 or higher -- before stocks have changed direction.
With the news from Iraq and North Korean still a big unknown, with earnings warnings season fast approaching, with rising energy prices putting new doubts about the economic recovery in investors heads, theres a very good chance that the fear indicators have room to run higher.
But at the same time, its no longer possible to accuse this market of complacency. And it is time to recognize that high levels of fear are building up fuel for any rally attempt.
Editor's Note: A new Jubaks Journal is posted every Tuesday, Wednesday and Friday. The Wednesday edition stems from Jim's appearance on CNBCs Business Center most Wednesday nights at approximately 5:45 p.m. ET. Selected CNBC stories can be found in the TV Reports index.
At the time of publication, Jim Jubak owned or controlled shares in none of the equities mentioned in this column. He does not own short positions in any stock mentioned in this column.
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