The investor sentiment cycle – Monevator


There is something that fluctuates even more than the stock market in investing – and that’s investor sentiment.

Indeed once you’ve been around the investment block a few times, it’s hard to take old-fashioned textbook economics – with their purely rational Vulcan investors and perfect pricing – very seriously.


I’ve observed that just as there’s a business cycle, there’s an investment sentiment cycle. This cycle sees the emotions of investors wax and wane as they lurch from fear to greed and back again.

That’s not to say the old textbooks – or the various forms of the efficient market hypothesis – are entirely wrong.

Later behavioural economists were surely correct that investors often act irrationally and take prices out of whack.


But that doesn’t make it simple to profit from such extremes. The woeful record of most active funds that try to beat the market is proof of that.

A share’s price may well reflect everything that’s publicly known about the asset. This may even include the knowledge that half the people buying it are doing so irrationally.

Yet the price can go even more irrationally higher.


Just think of tech and meme stocks in 2021.

Hunting for highs and lows

So far so straightforward. Avoid getting swept up in a mania, invest with your head not your heart, and sidestep the dangers oscillating investor sentiment, right?

If only it were that simple.

For starters it’s only in retrospect that you can clearly read back a cycle of fear and greed – even when you understand that bull and bear markets are at least partly emotional, and you’re alert to all the signs.

You’ll often see exuberance and reckless trading years before a given market tops out. Get out too soon and you’ll miss years of gains while you wait for a crash that might never come. (Miss enough gains and it might not have been worth abstaining overall, even if and when the market does crash.)

Betting against the market is always risky, both financially and emotionally. The great economist John Maynard Keynes said “the market can remain irrational long after you can remain solvent”. But what Keynes didn’t mention was that even if you avoid betting against a crazy market, you can still feel pretty lousy in your haughty solvency for as long as everyone else is making out like bandits.

I’ve been there many times.

For instance, in the previous version of this article published in 2010 I wrote:

I’ve avoided gold miners for years, despite their popularity, because gold has long seemed detached from reality. More fool me.

The gold price looked very stretched back then. Yet powerful undercurrents of fear that followed in the wake of the financial crisis kept its price bobbing along.

My patience was even more stretched. Sitting out this market while investor bulletin boards were full of my stock-picking peers doubling or tripling their money in a year was not easy.

It wasn’t until 2013 that my avoiding gold miners was at all rewarded, as the boom ended in a bust.

Who knows what money I failed to make before then?

The real zombie investments

I’ve been through similar cycles with everything from oil companies to tech shares to bonds to Bitcoin.

This is one reason I never say never again about any asset class or investment opportunity. I’ve seen too many supposedly surefire investments flounder. Even as others rise from the dead again when, eventually, both their fundamentals and investor appetite recovers.

If you leave entire sectors or asset classes behind every time you get your fingers burnt, you’ll soon end up with nothing left to invest in. Because they will all burn you from time to time.

Better to learn your lesson and leave only your emotions behind if you can.

Peak bullshit

One of the best things about updating very old Monevator articles is that since-proven illustrations are often just sitting there on the page.

Again from the previous version of this post from 2010, I wrote:

It seems like every private investor I meet nowadays owns a portfolio of oil companies, variously prospecting in the Mongolian steppes or trying to snake a pipe under the Arctic.

These people (maybe you’re one?) will tell you earnestly that oil shares are the only game in town, and peak oil makes all other investments irrelevant.

Indeed as far as I can tell, every 50-year old man who dabbles in shares (and they’re always men and over 50 these days, which says something in itself) thinks humanity’s future is to transport bundles of copper and gold back and forth between China and India in gas-guzzling trucks at great profit to themselves, while the rest of the world burns its old Tesco share certificates and 50 pound notes for warmth.

No place for media companies. No point in buying shares in breweries or builders. No future for whoever makes those fancy leggings that all the girls in London are wearing.

These peak oil investors have endless technical arguments as to why they’re not the last punters to turn up before midnight. They are supremely confident, and they grow more confident by the day.

We’ll see, but history is not on their side – all one-way bets hit the wall eventually.

Well this mania did indeed prove a tell.

Most oil and gas producers – and other commodity producers – started a decade-long slide down soon after.

You may recall the oil price briefly went negative in March 2020? By then, the iShares basket of oil and gas producers (Ticker: SPOG) was down 75%:

And as the graph shows, prices going negative – and every oil bull checking into the slaughterhouse – turned out to be a historically good time to buy.

(Do I sound smug? I shouldn’t – because buy I did not!)

Dot come again

If you think that’s an impressive bit of Mystic Meg action, you’re going to love what I wrote about tech stocks in the 2010 edition:

For a contrasting unloved sector, consider technology companies.

It’s hard to remember a time when half the office owned shares in nonsense companies like Baltimore, Webvan, and NTX. Yet it was only a brief decade ago that the Dotcom stocks were doubling in a month on a good press release and a name change.

Today roughly nobody except institutional investors bothers with individual technology shares – yet the Nasdaq tech market in the US has been quietly beating the Dow and the S&P 500 for months.

Blimey! This is how someone gets themselves a big head. (Or a permanent place on rotation on CNBC.)

I went on to speculate that the seeds were being planted for a new boom in technology shares:

  • The first shoots will be obscure magazine articles on the Nasdaq’s recovery.
  • Then you’ll discover a friend or a bulletin board poster who has tripled his money betting on cloud computing micro-caps.
  • Perhaps Facebook or Twitter will float for what will seem a crazy valuation, but will look positively modest a few years later.
  • Some new kind of fusion or computer or website will emerge and capture everyone’s attention.
  • Whereas today there’s less than half a dozen surviving UK funds focused on technology, by then there’ll be dozens. You can’t miss them – they’ll be advertised in all the Sunday papers.
  • The last lemon will ripen in 2020, when even you and I will buy shares in a Korean software company that’s a rumor we heard from an old boss who’s confused it with gadget in a movie he saw on the first commercial space flight to the moon.

And then the bubble will burst. We’ll all wonder again what we were thinking, and put our savings into ‘risk-free’ Chinese government bonds and middle-class apartment blocks in New Dehli.

Okay, so I lost the plot a bit at the end there – the dangers of long-range speculation.

But I think these examples – which you’re welcome to check back on using the Internet Wayback Machine – show that it’s possible to judge what’s in and out of fashion at the extremes.

Again though, don’t confuse ‘possible’ with ‘easy’.

A cycle for all seasons

To conclude this walk down memory lane, last time I finished by reminding readers how I’d suggested in 2009 that we might be on the cusp of a new bull market:

I don’t know how the next bull market will play out. Maybe it’s not the turn of technology shares again quite yet. Maybe investors will go mad for Chinese small caps or German widget makers instead.

Oh well, I was half right!

But the important point is not that you can predict what’s coming next. It’s not even that you can be sure that cycles are reaching a peak or about to burst.

Not gonna lie, after a rotten couple of years in the market revisiting this article has boosted my ego.

But still, in practice commodity shares did continue to run for at least another 18 months after I flagged the oil and gas mania. As for the new tech boom, I certainly benefited – it did most of the late-stage heavy-lifting that took me to FIRE – but by no means was my portfolio as full of them as it might have been.

More recently I’ve been cacking things up anyway, getting back into growth stocks too soon after the 2021 sell-off and ditching UK investment trusts I’d bought to ride out the turbulence before they rallied.

Active investing is hard and best left to masochists who are wired a certain way. We’ve argued that many times.

So what is the important point?

Just that thinking about the sentiment cycle can be helpful.

Investor sentiment 101

Try to step outside of the current tumult from time to time to consider the broader currents – whatever kind of investor you are.

  • You should understand your own emotions – why we all feel fearful, brave, or even guilty at different times.
  • If you’re an active investor, you can potentially profit by guessing how others are feeling, and placing your bets accordingly. Never bet the farm! Stay humble.
  • If you’re a passive investor, the cycle explains why you should keep on investing through the market’s ups and downs. You’re not being reckless by seeing the cycles play out and yet perhaps doing nothing different. By staying on course you’re strategically taking advantage of the oscillating and unprofitable emotions of your fellow investors.
  • You might also keep an eye on technicals like CNN’s Fear & Greed index.

Always remember: this too shall pass.

Not everything changes

Think this is all too obvious?

Okay, but – for example – have you been loading up on super-safe government bonds despite their recent rotten run?

Have you been salivating as real yields on index-linked gilts turned positive?

Or have you been one of those writing in the Monevator comments to say that you don’t see the point of bonds anymore and you will never invest in them again?

Sure there are valid reasons why you might reply “not for me” or at least “not yet”.

But that bond prices have gone down a lot and everybody hates them is as bad a reason to avoid them as exists if you’re any sort of long-term, diversified investor.

It will not always be this way.

The crying game

When I first wrote about investor sentiment and emotions back in 2010, the idea that investors’ emotions constantly shifted with narrative and price remained controversial.

Yet only a few years later Robert Shiller won the Nobel Prize in Economics alongside Eugene Fama – efficient market royalty – and Lars Hansen (who we’ll get to another day.)

For Shiller to take the 2013 award along with Fama was proof that behavioural economics – and ideas like investor sentiment – are now part of the framework of modern market theory.

So much so, in fact, that younger readers might now take it for granted.

Fair enough. But let’s see if that stops investors getting carried away again in the future.

Personally I will be betting against it.

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