Click Here To Read: An Analysis Of Investor Sentiment 1987-2008
Introduction (Via OSAM)
A study of the American Association of Individual Investors’ (AAII) “Investor Sentiment” poll from 1987–20081 provides solid evidence for Buffett’s principle, especially as it pertains to growth investing. The average rolling one- and three-year returns to indices or strategies bought during times of prevalent bearish sentiment were all superior to their long term one- and three-year averages. The outperformance was most signifi cant for growth strategies. If you bought the Russell 2000 Growth® Index during these periods of investor malaise, the average one-year return would have been 7.36% better than the overall average rolling one-year return between 1987 and 2008. The opposite holds true during very optimistic times. Backtests of all strategies (with the exception of O’Shaughnessy Market Leaders Value) underperformed their long term average following periods when investors were the most hopeful. The data leads to a simple conclusion: when people are overly excited about the market, buy value. When they panic, buy growth. O’Shaughnessy Market Leaders Value is a strong strategy regardless of investor sentiment — it is the one exception to the rule.
Must Read Results (Via OSAM)
The Bearish strategy produces superior average returns over one- and three-year periods for all indexes and strategies tested, with the exception of the three year Market Leaders Value backtest, which does not appear to be affected by investor sentiment. For example, in October of 1990 roughly 60% of investors were bearish and only 20% were bullish — this 40% spread was one of the largest in the study. Two headlines were indicative of investor’s fears, “High interest rates, the threat of war and increased unemployment are market killers,” and “Our expectation is that we are facing a long bear market, perhaps as long as five years, and that a great part of the advance of the past 15 years will be retraced in that time.”2 If you had taken Buffett’s advice and traded against investor sentiment, you would have realized phenomenal returns over the next one- and three-year periods. Our SMID strategy backtest would have returned 65.82% in the following year (vs. a long term average of 19.79%) and 41.73% annualized over the next three years (vs. a long term average of 18.84%). As evidenced by the chart below, bearish sentiment is a great opportunity to buy growth.
During periods of irrational exuberance, value strategies provide the best chance of returns on par with long term averages, while growth strategies performed very poorly.
Click Here To Read: An Analysis Of Investor Sentiment 1987-2008
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