Bearish sentiment abounds; coordinated market intervention next?

Bearish sentiment abounds in financial markets, and the contrarian “buy” signals intensify. And yet, few analysts have the courage to say the correction/bear market is over and this is the time to jump into the market.

Last week, in an article published on’s Real Money, I spoke with the co-manager of bearish exchange traded fund AdvisorShares Ranger Equity Bear ETF, Brad Lamensdorf, who believes the market rout still has a way to go.

Bank of America’s Bull/Bear Index keeps screaming “buy”, stuck in extremely bearish territory for months.

Bull Bear Index

Extremely bearish sentiment again in the markets. Source: Bank of America Merrill Lynch

Of the index’s six components, two are in bearish territory, equity flows and hedge funds positioning. The remaining four – long only positioning, credit market technicals, equity market breadth and bond flows – are all very bearish.

Looking at capital flows, in the week that ended on February 10 (and when Chinese stock markets were closed for the Lunar New Year holiday for most of the period), there was a stampede out of equities, which saw redemptions of $6.8 billion, according to the Bank of America Merrill Lynch data.

All regions suffered: US stocks, which have seen outflows in nine of the past 10 weeks, lost $3 billion, while European equities saw their largest outflows in 24 weeks, worth $1.8 billion. Emerging markets have seen outflows for 15 straight weeks, and last week lost another $1.3 billion.

Even Japanese equities, usually resilient, saw their largest outflows in 17 weeks, worth $700 million.

Looking at sectors, it becomes clear that investors are in the middle of a serious reassessment of risk: healthcare/biotechnology equities saw their largest redemptions in four years, worth $3.1 billion.

Biotech was followed by financials, which saw their largest outflows in 24 weeks, worth $1.3 billion, and technology, which saw $1 billion leaving.

Safe assets were the clear winners: money market funds saw $24.3 billion rushing in, while $3.6 billion went into treasury and muni bonds. Precious metals saw their second largest inflows in almost six years, worth $1.6 billion.

With the contrarian “buy” signal flashing “go” for so long, do the analysts believe it’s safe to get back into stocks? No, on the contrary: the Bank of America Merrill Lynch report says investors should be long cash, gold and volatility.

The reason for this is what they have called “quantitative failure” — the fact that central banks have lost a lot of their influence over the markets.

I can see only two possible ways to put an end to the market’s fears. The first would be a temporary solution in the form of coordinated action by the world’s central banks, like the Plaza Accord from 1985 when France, West Germany, Japan, the United States and the United Kingdom agreed to weaken the US dollar by intervening in the markets.

This would temporarily work because it would restore the artificial balance of ample liquidity via the world’s reserve currency. However, over the longer term it would only amplify already existing asset price bubbles and lack of competitiveness in various areas, making the inevitable crash even more painful.

The second would be painful in the short term, but would truly help the global economy rebalance and restart from a healthier basis. It consists of simply stopping all government intervention and allowing markets to price risk accordingly. This means giving up on “communism for the rich” and also, where needed, writing off debt when it’s clear that it cannot be repaid.

The latter sounds scarier than the former, and it’s not exactly a vote winner. Prepare for coordinated action on currencies, therefore.