One of the market’s most important sentiment indicators is inching closer to buy mode…
According to research firm Lipper, investors have been pulling money out of stock mutual funds for six-straight months now.
To understand why this trend is so important, consider the amount of money involved…
Since the beginning of June, investors pulled a total of $152 billion out of stock-based mutual funds. That’s the biggest round of selling in a six-month period since March 2009. Back then, investors responded to the financial crisis by pulling $188 billion out of stock-based mutual funds.
Looking back, March 2009 turned out to be the best time in decades to buy stocks. From the end of March 2009, the S&P 500 gained 40% over the next year. Riskier small-cap stocks, measured by the Russell 2000, surged more than 60% over the next 12 months.
The other notable fact about the selling trend: it’s the longest streak we’ve seen since the six months ending in December 2008. Although the stock market swung wildly for a few more months, investors who were willing to buy at the start of 2009 made a fortune.
Over the long run, it pays to buy when “the crowd” is selling. Take a look at the chart below. It shows the mutual fund “flow” data since mid-2008.
You can see the cyclical nature of investor sentiment toward stocks. Investors pulled hundreds of billions of dollars out of the stock market during the financial crisis. Once the selling was exhausted, the market rallied.
In 2010 and early 2011, investors fell in love with stocks again, pouring hundreds of billions of dollars back into stocks. After buying peaked in April, the S&P 500 fell more than 15%. (International stock indexes did much worse.)
Money goes into stocks, money comes out of stocks… It’s like watching the tide. There’s no guarantee the flow of money out of stocks will end this month or next. The important thing is to recognize where we are in this cycle.
Sooner or later, investors will start shifting back into stocks. Once the cycle shifts back into bull mode, you can bet on double-digit gains in the market – and even triple-digit gains in riskier small-cap stocks.
Of course, “the crowd” will end up buying AFTER the market has spent months moving higher.