by Bob Stokes
Updated: April 02, 2019
When investors reach a consensus about the direction of a financial market, it's usually a signal that the trend will move in the opposite direction.
As a classic Elliott Wave Theorist noted:
Extreme opinions, shared widely, constitute the single most reliable indicator of an impending change of direction for a market. If virtually everyone is thinking one way, they have already acted.
By way of example, consider the all-time highs in crude oil and gold. Here's a brief overview, starting with crude:
On July 2, 2008, the Daily Sentiment Index at trade-futures.com reported 97% bulls among oil-futures traders. Nine days later, crude prices peaked. In the five months that followed, price declined by 78%.
You may also remember the frenzy to own gold that preceded its all-time high in September 2011. Sentiment was so positive that the SPDR Gold ETF became the largest exchange-traded fund in the business (surpassing the SPDR S&P 500 ETF). Yet, less than two years later (June 2013), gold's price had fallen some 37%.
Historic examples of turns coming near an extreme consensus have also unfolded in stocks and other markets, including bonds.
Robert Prechter's 2017 book, The Socionomic Theory of Finance, provides two charts and commentary.
Above is a long term chart of U.S. interest rates showing where intense and broad consensus among economists took place. You can see that economists' conviction in June 1984 that interest rates would continue rising (and bond prices would continue falling) derived from linear extrapolation of a trend that had persisted since the 1940s. That trend had already ended in 1981. But economists' passion relating to the old trend was so strong that when rates headed back up in 1984 the only direction that felt right to them was up.
The next chart shows what followed.
Just look at the dramatic plunge in interest rates over precisely the twelve-month period that they predicted they would rise ….
Fast forward to the consensus about the interest rate trend in early spring of 2019.
With 10-year Treasuries hitting 15-month lows, this March 27 CNBC headline captures the prevailing sentiment:
[T]he big interest rate slide is likely not over
Many other pundits have expressed the same views. Almost no one thinks that rates will rise.
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