Investor Sentiment Just Shifted in Record Time

A year-end rally is underway. And we have good reason to believe it'll continue...

After bottoming in late October, stocks spent almost all of November moving higher. The market was up for nearly 80% of last month's trading days. And that rise created a rare setup.

Based on a specific measure, stocks were oversold in late October. But less than a month later, they became overbought.

This kind of quick change doesn't happen often. It's a good sign, though. According to history, it means nearly 13% gains are possible over the next year.

Let me explain...

Sentiment always reverses faster than you'd expect. At first, it might feel like the bad times will only worsen. But when they don't, folks begin to look at the bright side – and the next thing you know, everyone's bullish again.

Typically, that process takes time... usually months, not weeks or days. But the recent stock reversal is an exception.

You see, stocks were oversold at the October bottom based on the relative strength index ("RSI").

The RSI looks at recent prices to determine if a stock has moved too far, too fast. When that happens, a snapback rally is possible. So it's worth paying attention to this indicator.

We generally refer to an RSI reading below 30 as "oversold." In other words, a rally is likely. And we refer to an RSI above 70 as "overbought," meaning a decline is likely. As you can see, the S&P 500 Index just went from oversold to overbought in just a month. Check it out...

Reversals that quick have only happened 10 other times since 1950. That makes today's action incredibly rare.

More important, the market sees consistently higher gains after these setups. Take a look...

You might expect stocks to suffer after becoming overbought. But history shows the opposite is likely to happen after a quick RSI reversal. In fact, the market tends to massively outperform the typical 7.9% annual gains we've seen since 1950.

Similar instances led to 4.4% gains in three months, 8% gains in six months, and an impressive 12.5% gain over the next year. Those are solid results. Plus, stocks were higher a year later 70% of the time.

This isn't what we'd typically expect after the RSI shows stocks are overbought. And most folks out there are still looking for reasons to sell.

But the data is clear. It tells us that the recent rally will continue. So don't get caught on the sidelines as it unfolds.

Good investing,

Brett Eversole

Further Reading

Investor fear soared in October. But now, that panic is starting to fade, based on the market's "fear gauge." And that swift reversal tells us a new rally in stocks is likely starting... Read more here.  

"It's just an extremely rare situation for stocks to blaze back this aggressively," Sean Michael Cummings writes. But according to history, this behavior has a bullish tilt. These "whipsaw" actions can lead to big returns over the next year... Learn more here.