As investors, we often find ourselves navigating a complex landscape where emotions intertwine with market fundamentals. Frequently, my strategy has centered on sentiment-based investing. This method uses the prevailing market mood to guide buy and sell decisions. I’ve learned that when investors experience extreme fear or when enthusiasm reaches unsustainable peaks, opportunities—and caution—present themselves.
The Method Behind the Moves
I base this strategy on the observable shifts in market sentiment. When market optimism runs high, it is typically fuelled by exuberance. There is often a belief that a stock has hit a peak. These are often the moments to consider selling. Look for high PEs, triple-digit profits, etc. During these instances, the market’s collective psyche reflects that there is little more upside to justify continued high valuations. Conversely, when fear grips the market, especially after adverse events like aggressive tariffs from the Trump administration, sentiment declines. This creates attractive entry points.
Just before the Trump tariff season, I’d been selling stocks. Sentiment signaled that prices had reached near their apex. This was relative to the underlying fundamentals and my target (need based targets). This allowed me to accumulate cash and subsequently deploy it during the subsequent dips. I accumulated liquidity before the market mood turned negative. This positioning enabled me to take advantage of the more favorable pricing that followed.
Why does the Recovery value usually Fall Short of Previous Peak
A critical observation in my analysis is that even when the market begins to rebound after a steep crash, it often does not retrace all the way to its previous highs immediately. I have outlined this in an earlier post here .The rationale behind this is twofold. First, when a stock is sold off due to over-enthusiasm, the implied “peak” may have been based on unrealistic expectations—expectations that, once corrected, do not quickly revert. This could also be a perception based on fundamentals presented by the stock that the price range will stagnate in the short to mid-term future. Second, if a decline is driven by a loss of trust or deteriorating fundamentals within an organization or sector or even the market, the recovery requires more than a mere shift in sentiment. It demands a rebuilding of confidence through tangible improvements in performance or structural changes in the company.
In either scenario, the initial sell-off sets a new benchmark. Rebounding to the earlier high is contingent upon the market receiving compelling evidence that either the previous exuberance was unfounded or that the company has fundamentally restructured to warrant renewed trust. For both cases, there is need for deeper, more gradual processes, which explains why post-dip rallies may be impressive in sentiment shifts but are slow to restore past price levels for individual scrips as recovery of sentiment in them cannot happen overnight even though the market overall has improved impressively.
Combining Sentiment with Fundamental Analysis
Although a sentiment-based approach has served as a vital component of my strategy, it is not infallible. Market sentiment can be volatile, and its shifts may sometimes be a reaction to short-term events rather than indicative of long-term trends. Accordingly, I also emphasize the importance of corroborating these signals with fundamental analysis. Evaluating balance sheets, earnings history, and management quality provides a necessary context that pure sentiment indicators cannot capture.
As I continue to refine my strategy, the key is to remain disciplined: sell when market sentiment indicates that stocks have become overvalued due to temporary exuberance, and hold or accumulate when fear drives prices to levels that are supported by sound fundamentals. This measured approach not only helps in preserving capital during downturns but also in positioning for sustainable gains as market conditions improve.
Conclusion
Investing in bear markets requires a nuanced understanding of both human psychology and market fundamentals. We must acknowledge that investor sentiment plays a profound role in determining market moves. By doing so, we can better harness these insights to make strategic decisions. While a shift in sentiment may trigger a rebound, restoring confidence and rebuilding value takes time. In this context, a disciplined, sentiment-based strategy plays a crucial role. This strategy is complemented by solid fundamental analysis. It provides a pathway to capitalize on opportunities. It helps us avoid falling into the pitfalls of short-term market reactions.
In the end, the market does not always reward a quick change in mood. It is through measured, informed, and often patient investing that one can truly benefit from the inevitable cycles of fear and recovery. Stay the course, remain vigilant to both sentiment and fundamentals, and let reason guide your investment decisions.
~until next time, ciao 🙂