Are you more scared now than a year ago? No.May 24, 2012: 12:27 PM ET
"Grexit" is a key search term on Twitter. China's economy is slowing. Long-term Treasury bond yields are near a record low. The U.S. is edging closer and closer to that nasty little fiscal cliff. These are not fun times to be an investor.
But guess what? We've lived through similar levels of fear (and perhaps some loathing) before and have gotten through it. In fact, investors were more frightened at this time a year ago. How do I know that? CNNMoney's brand spanking new Fear & Greed Index tells me so.
As any long-time investor knows, market sentiment tends to alternate between two powerful emotions: fear on one end and greed on the other.
With the help of our partner Markit On Demand, we've taken a variety of market factors, such as volatility, junk bond demand and whether more stocks are hitting highs than lows. We put them in a blender and mixed them all together to spit out a number that notes whether investors look more like the guy in Munch's The Scream or the people who sold Munch's The Scream for nearly $120 million. Okay. It's not really magic and alchemy, just math. For a detailed look at the secret sauce, here's the Fear & Greed explainer page.
The index updates in real time and as you'll see, it is currently showing that investors are in Extreme Fear mode. A reading of 0 would probably indicate that everyone believes the end is nigh. 100 would signal an environment where everyone is getting rich buying stocks ... an alternate universe where the Facebook (FB) IPO didn't go splat.
The current reading is 15. That is worrisome. But dig deeper. The index is a little less fearful than last week. And it's currently one point higher than this time a year ago.
We live in a fast-paced world and it's easy to forget that last summer, investors were nervous about a European recession, concerned about banks' exposure to European sovereign debt and credit default swaps and a slowing U.S. job market. Sound familiar? If that wasn't enough, the global economy was also dealing with the impact of the Japan earthquake and tsunami in March 2011.
So fear, even in the extreme sense, can quickly give way to optimism ... or to take a more cynical view, apathy, complacency and yes, even greed.
The good news about the market right now is that most of the risks that investors are worrying about are not exactly new. Europe has been a mess for more than two years. Yes, Greece possibly leaving the eurozone could be very bad news. But as I've written recently, some market experts don't think a Grexit would be the same thing as Lehman going kablooey in 2008.
China's slowdown is also not a surprise. In fact, Chinese officials probably welcome it to some extent since it alleviates some inflation pressure. Finally, the U.S. problems should also not be a shock to anyone with more than a few functioning brain cells. Congress played chicken with the debt ceiling last year. It lost. The U.S. had its pristine credit rating taken away by Standard & Poor's in August of last year. Stocks plunged at first on that news.
But by last autumn, investors were celebrating signs of improvement in the economy and solid corporate earnings. The market went on to enjoy an explosive rally that lasted from last October to early April of this year. Consequently, our Fear and Greed Index rapidly went from Extreme Fear to showing Extreme Greed in no time.
So what's this all mean? Take our Fear & Greed Index with a grain (or two) of salt. It doesn't necessarily predict market performance over the long-term. But its does accurately give a good sense of short-term sentiment, which is important. And it may not take much to get investors moving from Fear to Greed again. If I were a betting man (oh wait, I am) I'd wager that more assistance from the Federal Reserve might be what sparks the market to move higher.
Investors are hoping the Fed will pull a Mrs. Doubtfire ("Help is on the way!") or Mighty Mouse ("Here I come to save the day!") and lift the market out of its recent malaise. Just check out what bond king Bill Gross and perma-bear Nouriel Roubini have to say about the likelihood of more quantitative easing, or QE3. They were responding to a speech by NY Fed chief William Dudley about what the economy would need to do to justify more easing.
Gross: Fed's Dudley less dovish. QEIII now. Depends on Euroland, inflation & jobs. 50/50.—
(@PIMCO) May 24, 2012
At the end of the day, fear is not a bad thing necessarily. Even extreme fear. If you believe that fear will lead to a continuation of low interest rates (inflation be damned! We'll worry about that in 2015) for a very long time, then this is probably the right time to start looking for bargains.
If anything, you should probably be more nervous when the index is flashing Extreme Greed. That may not necessarily be a sign that the market has topped. But as any pro will tell you, the time to bet on stocks is when blood is in the streets. Like now.