Our latest sentiment survey was open from 7/2/10 to 7/9/10. The response rate was high, clocking in at 151 respondents. Your input is for a good cause! If you believe, as we do, that markets are driven by supply and demand, client behavior is important. We’re not asking what you think of the market—since most of our blog readers are financial advisors, we’re asking instead about the behavior of your clients. Then we’re aggregating responses exclusively for our readership. Your privacy will not be compromised in any way.
After the first 30 or so responses, the established pattern was simply magnified, so we are comfortable about the statistical validity of our sample. Most of the responses were from the U.S., but we also had multiple advisors respond from at least two other countries. Let’s get down to an analysis of the data! Note: You can click on any of the charts to enlarge them.
Question 1. Based on their behavior, are your clients currently more afraid of: a) getting caught in a stock market downdraft, or b) missing a stock market upturn?
Chart 1: Greatest Fear. 94.7% of clients were fearful of a downturn, as negative sentiment surged with the market weakness. The market action of the last two months has pushed investor sentiment to very bearish, pessimistic levels. This is a new high in fear, ahead of last survey’s 85.6% reading and above the previous peak of 92.7% reached on 5/21/2010 . Only 5.3% of clients were concerned about missing an up-move, a drop from last survey’s reading of 14.4%. Overall, we are still seeing a strongly pessimistic outlook in client sentiment.
Chart 2. Greatest Fear Spread. Another way to look at this data is to examine the spread between the two groups. The spread remains significantly skewed towards fear of losing money this round. This survey’s reading was 89%, up from last survey’s 71%. This is also a record fear spread. Chart 2 is constructed by subtracting the percentage of respondents reporting clients fearful of missing an upturn from the clients reported as fearful of a market downdraft.
Question 2. Based on their behavior, how would you rate your clients’ current appetite for risk?
Chart 3: Average Risk Appetite. The average risk appetite for this survey moved in-line with the other stats we’ve gone over thus far. With weakness in the market, client fear has grown and the average risk appetite has continued to shrink. This survey’s average risk appetite was 2.05, down from last period’s reading of 2.29. This is also a new low.
Chart 4: Risk Appetite Bell Curve. This chart uses a bell curve to break out the percentage of respondents at each risk appetite level. Right now the bell curve is biased to the low-risk side, as it has been for the few months. What we see in the bell curve is more evidence that clients are afraid of losing money in the market. Just as in last survey, we have absolutely zero 5’s, which points towards a market dominated by fear.
Chart 5: Risk Appetite Bell Curve by Group. The next three charts use cross-sectional data. This chart plots the reported client risk appetite separately for the fear of downdraft and for the fear of missing upturn groups. We would expect that the fear of downdraft group would have a lower risk appetite than the fear of missing upturn group and that is what we see here.
Again we have a total of zero responses with a risk appetite of 5, indicating pervasive fear in the marketplace. The most aggressive responses from the fear of missing upturn group were only a neutral 3. Only time will tell if these “oversold” emotional conditions will lead to a market rally.
Chart 6: Average Risk Appetite by Group. A plot of the average risk appetite score by group is shown in this chart. The fear of missing downdraft group had an average risk appetite of 2.03, while the fear of missing upturn group had an average risk appetite of 2.50. Theoretically, this is what we would expect to see.
In an earlier survey recap, we highlighted the fact that the missing upturn group seems to have a more volatile risk tolerance – their risk appetite as a group seems to swing more frequently and further than the downdraft group. We see this again, with the missing upturn average dropping 45 basis points from 2.95 to 2.50, versus only a 15 basis point move in the downdraft group, from 2.18 to 2.03.
Chart 7: Risk Appetite Spread. This is a spread chart constructed from the data in Chart 6, where the average risk appetite of the downdraft group is subtracted from the average risk appetite of the missing upturn group. The spread is currently .47, showing modest compression from last survey’s reading of .77.
This round of sentiment survey is still suffering from the effects of the market correction that started in late April. This survey was conducted on 7/2/10, near the lows of the latest downturn; the previous survey was conducted on 6/18/10, which reflected an upward bounce. Although the volatility of the last three months has put a significant damper on client mood, the biggest factor in client sentiment still seems to be what just happened over the last two weeks. As we like to emphasize, it’s important for the advisor to keep the client’s eye on the prize – long term performance. In two weeks, anything can happen in the markets, and as these surveys point out, a client’s emotional tolerance for pain can swing just as easily. It’s your job as an advisor to help the client manage his emotional proclivity to shift his long-term investment objectives based on short-term market action.
No one can predict the future, as we all know, so instead of prognosticating, we will sit back and enjoy the ride. A rigorously tested, systematic investment process provides a great deal of comfort for clients during these types of fearful, highly uncertain market environments. Until next time, good trading and thank you for participating!
Posted by Mike Moody 
