The Art of Expectations: The Market

Still a Bull Stock Market Bias – Typical Low Expectations Reactions

ReactionThe stock market has come under pressure as of late even though the Expectations Indicator signaled low expectations on 6/12/2012.  Although it may appear the bears have taken control of the stock market, the fact is the market is trading just as a low expectations market would.

When we look at the current activity, we need to evaluate what is causing the pressure and what brings relief. For example, last week the market traded down considerably with the anticipation of a large credit ratings agency lowering 15 banks credit ratings. Since the release was due after market trading hours the market closed nearly on its lows for the day. On following trading day the market popped on the news with a common sentiment the “it could have been worse”.

This sense of relief is a typical response to an environment where there are low expectations. No matter what the ratings changes where the low expectations market environment expected worse.

Today and in the coming days the stock market is anticipating more news that should have the similar effect of trading down on the anticipated event followed by a relief rally on the news. This behavior is very typical in the early stages of low expectations.

We should expect the market to transition from this “it could be worse” environment to a more optimistic one as expectations build.

To learn how to create and track the “Expectations Indicator”, read The Art of Expectations available at Amazon.com right now..

Bear Market Psychology

Bear MarketOn September 16th 2011 the Expectations Indicator (included in the “The Art of Expectations”) signaled a Bear market. When me move from a Bull to a Bear market not only does the direction of the market change but also so does its psychology.

The obvious change in the psyche of the market is one of an optimistic nature to a negative one. Interestingly though, it is the process of transitioning from this positive attitude to a negative one that defines a Bear market. Once we are completely committed to the negative outlook, this is when we begin to transition to a Bull market.

Some signs of Bear market psychology are seen with the reaction to anticipated news. For example, when we have good news in the market it never quite lives up to its expectations (even though it may have beaten consensus expectations) and the market reacts adversely. On other side of the coin, when we have overly negative expectations on anticipated news and it disappoints, as expected, the market reacts positively.

Another sign of a Bear market attitude can be seen with the reaction before the anticipated news is released. When a market-changing event is approaching and expectations are high, a Bear market will buy the anticipation and sell the news. The opposite holds true, when a market-changing event with overly negative expectations is approach, a Bear market will sell the anticipation and buy the news.

These seemingly contrary reactions are actually the beginning transition from a positive mindset to a negative one. The process is unfortunately grudgingly slow and painful. It is especially hard to let go of a good thing.

So what conclusions could we draw from these characteristics of Bear Market Psychology?

1. If a piece of news or event is approaching and we are in a Bear Market (expectations are high), we should buy the anticipation and sell the news.
2. If a piece of news or event is approaching and we are in a Bull Market (expectations are low), we should sell the anticipation and buy the news.

So how do we know when a Bear Market is over and transitioning to a Bull? If we take this logic to heart, then it would have to be when we believe all is lost.