Chris Johnson and Jon Lewis

The Key to Finding the Right Stock to Trade -- Plus 6 Earning Plays

    Tweet This

Free Trading Guides

Here we have a contrary indicator (pessimism) that is running counter to the technical uptrend. And this is a powerfully bullish combination, because it tells us that the crowd has not yet bought into the rally.

In fact, we don't usually see a sector or stock top out until optimism has hit an extreme. In the same vein, sectors tend to form a bottom when pessimism hits a relative high point.

Have you ever heard the saying that "rallies climb a wall of worry" or that downtrends fall down a "slope of hope?" These follow the same principle of contrary indicators (sentiment) running counter to an established technical or fundamental trend. Identifying when such powerful situations occur is the key to our behavioral valuation approach.

6 Earnings Trades

The key to finding the right sector or stock is to find situations in which pessimism is evident during an uptrend (for a long position) or optimism is present during a downtrend (for a short play).

Objectively gauging sentiment can add substantial value to traditional technical analysis, because sentiment extremes are not visible on the charts and can only be viewed and measured by a separate class of sentiment indicators.