Let me clear something up, because apparently I scared a bunch of folks when I showed the Sentiment Cycle on Wednesday.
Let's remember: It is a cycle.
The chart is not meant to show the magnitude of the rises and falls, but rather the cycle and where we might be in it.
So, when I say I think we are done with the Enthusiasm phase and have moved to the Subtle Warning phase, or just to the left of it (where you see that up/down/up/down pattern) I am referring to acceptance of the rally. I am discussing sentiment.
And, quite frankly, I think Wednesday's rally was a help to sentiment. If we had had an awesome rally that didn't sell off into the close, sentiment wouldn't be discouraged would it?
You want sentiment to get sour. You want discouragement. Because a market that has investors discouraged and is oversold is a good recipe for a good rally. And the way to get sentiment sour is by not rallying well or selling off.
Let's take the Investor's Intelligence bulls. Last week, we saw them at an extreme of 61.5%. I had expected they would back off this week, and they backed off a bit, to 59%. But imagine if we don't have much of a rally, the rest of the week and we -- heaven forbid! -- close on a sour note to end the week. Can't you imagine that the Investor's Intelligence bulls might fall to the mid-50s next week? And if we get another whack next week? My gosh, they might even be closer to 50% two weeks from now.
That's what you want to see.
Or even the put/call ratio, which hasn't shown a lot of fear, except for last Friday, but the moving averages are rising. If we can get them rising for a week or two, you can get what would look like a change in sentiment, or at least a shift.
I ask you to go back to the chart of the S&P from June of this year. I think we're in a different place, since we hadn't seen Enthusiasm in June, but do you see how that played out? Down-up-down. And by the time that last down came around a few weeks later, folks were back to being somewhat cautious. Look where the 10-day moving average of the put/call ratio was after three weeks of correcting.
And we can always count on the American Association of Individual Investors (AAII) to be bearish. In fact, I'd be shocked if we don't see bearishness up quite a bit when they are released on Thursday morning.
In the meantime, the more cautious chatter we see, the better it is. Because that's what gives us the reset.