BackBoA indicator hints at overvalued stocks and a dangerous level of optimism
BoA's Sell Side Indicator is currently extremely high and dangerously close to BoA issuing a sell signalThe last time such a signal was issued was in June 2007
PremiumBank of America (BoA)'s Sell Side Indicator (SSI), a measure that judges the bearishness or bullishness of stocks, went from 58.4% in January to 59.2% in February, signalling the second consecutive month of an approximately one per cent increase. The inference is that there is currently a remarkably high level of investor optimism. However, such a high degree of investor optimism has previously been a sign of trouble to come for stocks.
The SSI relies on a tracker that collates information regarding the average recommended equity allocation as a percentage of the overall portfolio made by Wall Street strategists to their clients on the last business day of each month. The theory behind the SSI is that when investor sentiment is bullish, it is a sell signal, and when investor sentiment is bearish, it is a buy signal.
As per BoA, the indicator is currently at the highest it has been in nearly a decade and is only 1.1% away from BoA issuing a signal saying that it's time to sell up. This contrarian indicator whereby investors are recommended to go against predominant market trends by selling when most are buying is backed by history. Stock market returns have generally come in below average the year following investors crossing this threshold. The last time such a sell signal was issued was in June 2007. The following 12 months saw stocks drop by 13%.
Amidst U.S Treasury yields falling and optimism surrounding COVID-19 vaccines increasing, the stock market rebounded sharply on 01 March 2021. The S&P 500 escalated by over 2% and saw its best numbers since June 2020, while Nasdaq saw gains of more than 3%. Equities related to economic reopening performed exceedingly well, and index funds moved towards record highs. Questions surrounding whether stocks could continue to hold their elevated valuations were answered as the level of buying signalled a still high amount of investor faith. This has been reflected in BoA's SSI.
Alongside BoA, China also seems worried that investors are jumping the gun and getting ahead of themselves. On 02 March 2021, Guo Shuqing, the chairman of the China Banking and Insurance Regulatory Commission, said that U.S. and European stock markets are currently too high considering the challenges their respective economies are battling.
Guo fears that the bubble for foreign financial assets will pop. As Chinese markets are currently more closely linked to foreign markets than ever, the resulting volatility could negatively impact China.
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