Making Sense Out of Emotional Markets

12/06/2011 10:00 am EST

Focus: STRATEGIES

Jeff Greenblatt

Director, Lucas Wave International, LLC

News reports and rapid sentiment shifts naturally spur emotional responses from investors, explains Jeff Greenblatt, but the proper response in those situations may be precisely the opposite.

We’re talking today with Jeff Greenblatt. Tell us, how do you gauge market sentiment?

Well, we look at the psychology from either extreme optimism to extreme pessimism. Back in 2007, after the market topped, the commentators on television, and the headlines as well, were talking about how we were coming in for a “soft landing.”

As psychology evolved from 2007 to 2008, it took a full year in the bear market before sentiment starting turning really serious. I remember there was an event where the Fed Chairman went to the Senate Banking Committee and they finally held his feet to the fire because everything that they said was being contained with regard to the housing crisis wasn’t contained.

Well, the Lehman crisis happened two months later. Now, at the end of a bear market, of course it feels like it’s the end of the world. 

So fast forward to 2009 and 2010 when we recalled the sentiment before where they’re talking about a soft landing; now they’re talking about a “soft patch.”

They were talking about a soft patch in the early phases off the high, and obviously, we saw what happened. 

It’s very important to realize that after an extended period of time where you have optimism from a bull market, they can’t realize that the psychology could be much different. 

For instance, after the bottom in 2009, what they were asking every person that came on television was “Do you think there will be a double dip?” Well, they weren’t asking people about a double-dip recession when the markets were near highs; they’re asking that near market lows basically because when the market goes up and they’re worried about a double-dip recession, basically what they’re really saying is the market is climbing a wall of worry. 

Now, as we come to this phase where the markets have sold off very seriously, you hear them talking about the depression word. The more they talk about the depression word, the more you can think that we could be closer to a climax.

So when retail investors are watching news events, watching the financial media, how should they be interpreting some of this?

Well the way they should be interpreting it is that when they’re happy, that means it’s late in a bull move. If they talk about problems in the economy and the market is going higher, that’s your classic wall of worry. 

When you’re looking at situations where it feels like the bottom is falling out and it’s going to go down forever and fear is raging, then you have to consider that close to the end.

Unfortunately, a lot of retail people, they like to buy when they feel good and they like to sell when they feel bad. It’s the exact opposite of what they should be doing.

To sum this up, it’s perfectly normal for us to feel the emotions that we feel, but then we have to take a step back and interpret it and realize what it really means.

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