If Sentiment Drives Markets, What Drives Sentiment?

02/04/2016 6:00 am EST

Focus: STRATEGIES

Gregory Harmon, CMT

Founder and President, Dragonfly Capital Management

Greg Harmon of Dragonfly Capital takes a historical look at the chart of the S&P 500 during a 6-month period in 2011 and then puts this question into perspective given current sentiment. Greg also suggests that when sentiment is bearish—and more define the market by it—the sentiment becomes more bearish.

Sentiment drives markets, there is no doubt about that. But I often wonder what is it that drives sentiment. There are many good, reasoned answers to this. Facts drive sentiment. Changes in the way people think about a process based on experience can drive sentiment. But more often than not it seems sentiment is driven by whimsy or perhaps the hard wiring of our human brains.

This issue has taken up more of my thinking lately because of the all-in type breadth of sentiment that is behind the thought that the stock market is in a bear market. Tuesday night I asked the question, “Was April – October 2011 a Bear Market?” No picture or any other information attached. 58% of respondents to my poll said no. Below is a chart of the S&P 500 during that period.

chart
Click to Enlarge

From peak to trough the S&P 500 pulled back over 20% during that 6-month period. If you look at places like Investopedia or even main stream media like CNBC for a definition of a bear market they all state it requires a 20% pullback over at least a 2-month period. Doesn’t this qualify?

With the pullback right at the limit and given the benefit of hindsight, it does not bother me so much that the result was what it was. But put it in the context of the current market and it gets more confusing. To see the second chart and read the entire article click here…

By Greg Harmon of Dragonfly Capital

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