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Following a record-breaking decline in the first half of 2022, markets have staged a recovery led by the US.
The trough in June coincided with our US Composite Sentiment Indicator hitting, similar levels of pessimism seen during the midst of the Global Financial Crisis (GFC).
Chart 1 shows the FT Wilshire 5000 index relative to the World ex US. After underperforming the World ex US index from the end of December through mid-June, the US has seen a big improvement in relative performance over the past two months. The recent period of outperformance has seen the US claw back most of the year-to-date underperformance, returning toward the peak levels seen at the end of 2021.
Chart 1: FT Wilshire 5000 relative to World ex US almost back to peak levels seen in December 2021
It was noteworthy that the rebound in the FT Wilshire5000 has coincided with sentiment hitting statistically significant levels. Chart 2 shows our US Composite Sentiment Indicator (CSI), which incorporates nine technical analysis and market breadth measures, and aims to identify levels of exuberance and pessimism. This has proven a useful market timing tool and contrarian indicator. The market rebound in June coincided with the US CSI hitting extreme levels of pessimism—over a 2.5 standard deviation move relative to a long-term average, and similar levels witnessed during the GFC. We can see that once these levels have been hit, the indicator does not stick around for long before moving higher. Should the market recovery continue, a key question will be when sentiment will approach overbought levels, at least in the short-term.
Chart 2: Our US Composite Sentiment Indicator hit extreme lows in June
Looking at the breadth of the recent recovery in the markets, Chart 3 shows the percentage of stocks registering a Relative Strength Index (RSI) of over 70, which forms part of our Composite Sentiment Indicator and typically indicates an overbought signal for a stock or index. We show the latest readings versus the lows in June, as well as the five-year average level. The US has seen a fairly rapid rotation in sentiment, moving from 0% to around 16%, now at a similar reading to the peak levels we saw in December last year, and well above the five-year average. Conversely, using this measure of breadth the Chinese equity market has experienced a deterioration in sentiment over the same short period.
Chart 3: The percentage of stocks registering an RSI of over 70 in the US has risen rapidly during the recovery
Source: Wilshire, Factset and Refinitiv, 10 August 2022
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