Wednesday, May 30, 2007

Hedge Funds and Fuzzy Sentiment

Barry Ritholtz at The Big Picture does a nice job of summarizing two different points of view on the impact of hedge fund activity on market sentiment indicators, a category which includes the VIX, put to call ratios, and many of the other concepts I kick around here.

In his analysis, Ritholtz quotes John Bollinger in the Wall Street Journal as saying that when it comes to short interest, “Hedge fund activity has destroyed the usefulness of the numbers.” While I am inclined to agree with Bollinger with respect to short interest figures, I am not at all willing to take the extra step and offer a sweeping indictment of the VIX, put to call numbers, and other sentiment data. I am more than a little concerned about the increased role of hedge funds, ETFs and other factors that may call into question the value of making comparisons with historical data, but this is the reason that I often favor relative measures over absolute ones and ratios to stand-alone numbers.

Market sentiment data will never be perfect, but when used properly, even fuzzy sentiment data can be enough information to give you the edge you need in your trading.

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