Smart vs. Dumb

News flash: Predicting when markets go up or down can be almost impossible. Some people can get it right some of the time, but no one can get it right all the time. We’ve shown plenty of evidence of this in many of our blog posts, but I reacquainted myself with an interesting chart that attempts to compare institutional (professional) investors to non-institutional (individual) investors. It is somewhat rudely referred to as “smart money” vs. “dumb money.”

Like many measures of market activity, it’s not perfect, but it assumes that the individual investor (“dumb money”) is buying stocks in odd lots (not multiples of 100 shares) and the institutional investor (“smart money”) is buying in round lots (multiples of 100 shares). Further explanation from the 11/8/2019 “Schwab Market Perspective: Slowing Down While Speeding Up” article:

“…one that we track daily—SentimenTrader’s “Smart Money and Dumb Money Confidence” measures. The former cohort consists of institutional and professional investors, while the latter includes smaller odd-lot traders and investors; and they are behavioral measures in that they track how the cohorts are positioned. As you can see in the chart below, “Dumb Money” confidence has surged of late; yet the rub is that, typically at extremes, the “Smart Money” correctly identifies excessive optimism and sniffs out a subsequent market pullback. Should that be the case in the near future, it wouldn’t be all too surprising; considering U.S. stocks have rallied on decreasing uncertainty in the near-term, rather than confidence in longer-term fundamentals.”

Source: Charles Schwab, Sentiment Trader, as of 11/7/2019. Confidence Indexes are presented on a scale of 0% to 100%. When the Smart Money Confidence Index is at 100%, it means that those most correct on market direction are 100% confident of a rising market. When it is at 0%, it means good market timers are 0% confident in a rally. The Dumb Money Confidence Index works in the opposite manner.

As you can see from the chart above, the Dumb Money Confidence (orange line) is at a high and Smart Money Confidence (blue line) is at a low despite the good performance of the S&P 500 (green line). To me, this chart illustrates a classic example of an I’ll-get-back-in-when-things-are-better attitude that many investors have. Certainly, the professionals are not always going to be right either, but you can see that when the S&P 500 was down at the end of last year, professionals were buying while most individuals were selling.

We are all human, and it’s tempting to get out of markets when things are bad and try to time when to get back in at the right time. It’s akin to trying to resist eating all of your Halloween candy in one sitting. The all-just-eat-a-few-more-pieces-and-stop approach can go south quickly.

 

One pillow case full!

 

 

Let’s just say my son’s smile wasn’t so big after his attempt to finish all of that candy. So, try not to be “dumb” and buy at a high and sell at a low, and try not to eat all of your candy at one time!

Categories : Financial Planning

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