The best explanation I"ve ever seen about why the market may move up and down, in apparent contradiction to the status of the economy or the mood of investors. This from realmoney.com's trader conversation, an ongoing intra-day log of an active trader's observations on the market.
I commented this morning that I cringe a bit to see three or four market strategists in the last few days making bullish comments. Why is that a bad thing? Why is optimism a negative and pessimism a positive? Shouldn't the bulls be encouraged when an increasing number of people think that it's a good idea to be long?
The answer lies in the fact that people tend to act on their optimism or pessimism. If you are highly optimistic about the prospects of the market, you most likely have already bought as much stock as you can. If you are pessimistic, you most likely have acted on that by moving to the sidelines.
As optimism grows, the pool of buyers shrinks as they use up their buying power. When everyone is positive on the market and has acted on it, who is left to buy? Thus, the old adage that the market climbs a wall of worry.
When people are worried, they preserve some buying power. They cautiously inch back into the market and allow us to climb slowly upward. When everyone hates the market and has sold their stocks, we simply can't go much lower since everyone who is going to sell has sold.
That is the logic behind contrary thinking. Does it work? It does indeed, but it isn't an exact science by any means, and measuring sentiment is not an easy task.
