How to use emotions to build your wealth
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Weekly Market Update 🗒️💡
Many investors have become concerned with geopolitical developments and how they will affect surging inflation. St. Louis Fed President James Bullard has called for a full percentage point increase by July. Their hopes are not to crash the market with aggressive hikes, but to touch down safely as a plane would on a runway. With significant declines in the S&P 500 and the Nasdaq, geopolitical developments, and rising inflation, many investors have decided to turn to bonds and Bitcoin.
AMC NETWORKS INC (AMCX) spiked this past week absolutely smashing quarterly expected earnings.
EPS Normalized Actual $2.52 (Beat by $1.25)
Revenue Actual $964.52M (Beat by $27.45M)
This created a buying frenzy that propelled AMCX from $20 to $24, where it continued to rise to ~$27.
What is going to happen next week is anyone’s guess. Will investors jump on the bandwagon or will it trend sideways?
Tweet of the Week
What is Market Sentiment?
Market sentiment is a measure of the emotions, mood and behavior of investors toward the stock market, as well as toward specific sectors or assets.
Whether you like it or not, investor confidence can drive price action, pushing stock prices up or down without regard for the underlying fundamentals of the company.
Trading “the hype” is a perfect example of this. We saw it with GameStop GME 0.00 and Bed Bath & Beyond BBBY 0.00
This can create massive trading opportunities for short-term buyers, but also presents opportunities for long-term investors if you can enter at the right time. Be cautious though, the opposite is also true and you could lose money as well.
Because it’s very difficult to measure market sentiment, although I will reveal some tools later on in this post, there is no specific or correct way to conduct an analysis like this.
How Does Market Sentiment Affect Prices?
We know that human beings are emotional creatures, but the psychology behind investing makes no sense sometimes.
When the value of our portfolio increases, we’re happy and want to buy more. When it falls, we’re sad and want to sell. This mindset keeps investors trapped in a constant cycle of emotional investing, and that can be a very dark road.
There’s a theory by John Keynes called the Animal Spirit Theory which states that when human beings are uncertain of something, their instincts take over and their behaviors are determined by their sentiments.
This is why when the market is surging, investors will find it more attractive. Because their instincts say “this is an opportunity to make some money”.
When the inevitable happens and the market starts to fall, human beings will become pessimistic and think the market is a “scam”.
This is herd behavior, which explains the name Animal Spirit Theory. Sometimes the driving forces for supply and demand are just the herd changing their minds about the market.
Essentially, your wealth is dependent on the herd, unless you can find a way to beat the herd…
Trading Strategies Using Market Sentiment
Trading in relation to market sentiments can be a good strategy if you want to ride the wave. It can be very effective for long-term investors as well. However, this “herd instinct” doesn’t always end up being the best investing strategy.
There are investors who have decided to be contrarian. This means they trade the opposite of the market sentiment. This is essentially what a “value investor” does. They invest in beaten-down stocks with strong fundamentals and upside potential that are currently trading at a discount. These types of investors believe that the short-term price movements of a company have no impact on the business as a whole. This can be explained by the tendency of the market to overreact to good or bad news.
One saying that has always stuck with me:
Buy damaged stocks, not damaged companies.
In other words, buy the stock that has been affected by market sentiment, not the stock that is worthless because the business model sucks and they can’t make any money.
(Exhibit A: Bed Bath and Beyond)
Below is a graph depicting the flow of market sentiments. As you can see, the funnel starts with news and social media comments which have the largest impact on investor confidence in the market.
You can use the above chart as a guideline for when to buy and sell if you’re trading stocks for a short-term gain. When stocks are overbought and the price has peaked, inevitably the stock price will fall. The opposite is also true.
Indicators used to Measure Market Sentiment
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