S&P 500 Rally May Stall as Bears Disappear: Technical Analysis

The stock-market rally has driven short interest to a nine-month low and bearish sentiment close to a six-year low, a sign that few investors may be left to propel further gains, Strategas Research Partners said.

Short interest, or total number of shares sold short, fell to 168.8 billion on the New York Stock Exchange and the Nasdaq Stock Market at the end of December, as the Standard & Poor’s 500 Index capped the best quarterly return since September 2009, according to data compiled by Bloomberg. The proportion of respondents in the American Association of Individual Investors survey who expect the market to decline over the next six months reached 17.2 percent this month, down from 50 percent in August.

Some analysts watch sentiment as a contrary indicator given that optimistic investors have already purchased shares, leaving less money to help drive prices higher. The S&P 500 has jumped 18 percent from its October low as European leaders took steps to contain the region’s sovereign debt crisis and data showed the U.S. economy is improving.

“Real money is now needed to support the market rally,” Christopher Verrone, head of technical analysis at New York-based Strategas, wrote in a note today. “Investor complacency is growing,” he said. “The short-covering phase of this rally is likely exhausted.”

Individual investors have yet to return to stocks after the S&P 500’s surge of as much as 102 percent from a 12-year low in March 2009. Equity mutual funds suffered a fifth straight year of redemptions in 2011, the longest streak of outflows since at least 1984, according to the Investment Company Institute, a Washington-based trade group.

Last time short interest was this low, in March, the S&P 500 peaked at 1,363.61 the following month. Short interest reached its 2011 high of 200.5 billion shares in September, the month before the benchmark index set its low for the year at 1,099.23.

The bearish sentiment reading was the second lowest since November 2005, after the 16.4 percent in December 2010, according to data compiled by Bloomberg.