Bank of America Merrill Lynch: stock market is overthought

Sentiment on the US stock market may be too positive for its own good.

Wall Street analysts showed "extreme bullishness" on stocks at the end of September, based on a monthly survey conducted by Bank of America Merrill Lynch. As such, the firm's proprietary "Sell Side Indicator" — which monitors investor exuberance — is now nearly two standard deviations above its four-year average.

BAML points out that it's historically been a bearish signal when Wall Street gets extremely bullish. Described by the firm as a "reliable contrarian indicator," the sell-side gauge helps bolster the long-standing argument from stock market pessimists that US stocks are overheating.

On prior occasions in which the indicator has been one standard deviation above the four-year rolling average, the S&P 500 has returned less than 1% over the following 12 months, and it has actually declined almost half of the time.

The chart shows that the last time the BAML indicator (blue line) has been that far above its four-year rolling average (red line) was the financial crisis.

Source: Bloomberg Pro Terminal

Trader I. Ivanov

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