Published: December 7, 2009

Jason Goepfert is America's leading expert on stock market sentiment...

Sentiment shows you how the majority of investors are positioned in a market. Most of the time, it's useless information. Bulls and bears will be roughly balanced and there won't be any opportunity.

But occasionally, investors all pile onto the same side of a trade. When investors are all on the bullish side, there's no one left to buy. When investors are all on the bearish side, there's no one left to sell. Either way, the market has reached an extreme. This is a great opportunity to make money. You simply take the other side of the trade and wait for a reversal.

Jason has created hundreds of sentiment gauges for the stock, bond, commodity, and currency markets. These sentiment gauges give signals when investors are all on the same side of the trade. Right now, two of Jason's stock market sentiment gauges are flashing...

The Investors' Intelligence survey gives the first warning light.

Each week, Investors' Intelligence polls the writers of 140 investment newsletters and determines whether the publisher is bullish, neutral, or bearish. It has conducted this survey every week since 1962.

Last week, the survey showed the percentage of bearish newsletter writers had fallen to 16.7%. This is the third-lowest bearish percentage in 22 years. It suggests the market has reached an extreme of optimism. (The two lower readings were in June 2003.)

Jason looked up the 10 lowest Investors' Intelligence readings of the last decade and studied the market's performance after each extreme. He found the market had lost on average 0.3% one week later and lost 1.6% one month later.

The retail money market survey is giving the second flashing light...

The Investment Company Institute collects data on the money market holdings of retail investors. "Money market holdings" is the professional term for the cash investors hold in their brokerage accounts. When small investors are optimistic, they spend their cash on stocks. When they're pessimistic or frightened, they dump their stocks and build up large amounts of cash. Jason has created a sentiment gauge from this data.

Jason compares the amount of cash retail investors hold in money market accounts to the market cap of the S&P 500. He says whenever money market assets climb over 10% of the S&P's market cap, you have a great buying opportunity. (This ratio reached 15% in November 2008 during the credit crunch.) Conversely, when money market assets fall below 5% of the S&P's market cap, it's a good time to sell.

Right now, retail investors hold just over $1 trillion in money market funds. This represents around 8% of the S&P's market cap. The indicator is balanced right now. But it's still flashing a warning...

While 8% isn't an extreme cash level, the speed at which cash levels have plummeted from the level they reached in November 2008 is extreme. There has only been one other time in the last 30 years when retail cash balances have plummeted as quickly as this. From mid-1982 to mid-1983, cash levels plummeted from 15% to 8% in one year. Over the next 12 months, the market went into a steady decline, losing around 15%.

Jason studies dozens of sentiment indicators. The two gauges I just mentioned above are giving bearish warnings. But Jason says he has other gauges giving bullish readings. So what does Jason recommend his subscribers do?

Jason is recommending readers take an initial 25% bearish position on the S&P 500... but wait for more confirmation from the trend before adding to the position.

-- Tom Dyson
Editor
Daily Wealth

Editor's Note: This article originally appeared in Daily Wealth.