Pullback Warning! Overly Bullish Sentiment in U.S. Stocks, Even Wall Street's Firm Bulls Are Starting to Worry

According to the Zhitong Finance APP, there is currently an optimistic sentiment in the U.S. stock market, with investors seemingly convinced that the stock market will only rise. This has caused one of Wall Street's staunch bulls to begin worrying that all this optimism is sending out dangerous reverse signals. Ed Yardeni, founder of Yardeni Research and a long-time bull on U.S. stocks, stated that after nearly six months of frenzied gains, there are too many bulls, and this rally has almost ignored all warnings. As most investors remain skeptical about Federal Reserve Chairman Jerome Powell's cautious stance on another rate cut in December, Yardeni is now beginning to question his previous prediction of a year-end stock market rally.

Data shows that the S&P 500 index has surged 37% since early April, a feat that has only occurred five times since 1950. It is now November—historically, the month with the highest investment returns over the past thirty years. Yardeni predicts that due to market sentiment and technical indicators trending towards overbought conditions, the S&P 500 index could drop as much as 5% from its peak by the end of December.

Yardeni stated, "The key question is whether this rally has gone too far and whether it can be sustained in the last few months of the year. In a generally weak market, any unexpected event could lead to a pullback in stock prices from their highs, but considering that traders are usually more optimistic around the holidays, this scenario may be hard to come by."

According to one indicator, investors are currently in the most optimistic state in a year. A survey conducted by Investors Intelligence for the week ending October 29 shows that the ratio of bulls to bears has surged to 4.27, exceeding the critical threshold of 4.00. Analysis from Yardeni Research indicates that historically, a threshold above 4.00 typically suggests that market sentiment is overly optimistic. The American Association of Individual Investors (AAII) weekly survey of retail investors also shows another sign of rising optimism: for the fifth time in the past seven weeks, bullish sentiment levels have exceeded the historical average of 37.5%.

Yardeni's cautious stance is noteworthy, as he has been one of Wall Street's most steadfast bulls since the market bottomed in April. He predicts that the S&P 500 index will reach 7,000 points by the end of 2025—about 2.3% higher than last Friday's closing price—close to the highest values predicted by institutions.

After the S&P 500 index rebounded by approximately $17 trillion, key market technical indicators are approaching historical extremes. Yardeni noted that the trading price of the S&P 500 index is 13% above its 200-day moving average, a significant price gap that typically indicates an excessive rally. The trading price of the Nasdaq 100 index is 17% above its long-term support level, nearing the largest price gap since July 2024, which was followed by events in August 2024 Yen arbitrage trading has triggered a sell-off in the stock market, shaking the entire market.

Of course, market sentiment may remain high for several weeks or even months before the stock market experiences a significant decline. Another well-known bull, Tom Lee, head of research at Fundstrat Global Advisors, pointed out that given the strong performance of U.S. stocks in November, he is buying on dips.

In a report sent to clients on Friday, Lee stated, "While there may be some understandable volatility to digest the strong gains in October, we expect November to still be an up month." This remains "the least popular rally."

The S&P 500 index has risen 16% year-to-date in 2025. Historically, if the index has gained at least 10% in the first 10 months of the year, it indicates good stock market performance for the remainder of the year. According to data compiled by Jay Kaeppel, a senior research analyst at SentimentTrader, the benchmark index has averaged a gain of 4.2% in November and December, with the worst performance being a 3.8% decline in November and December of 1938.

As 2025 approaches its end, risks for investors are increasing as traders bet that the Federal Reserve will ease monetary policy faster than it has indicated. This week, the speeches of about a dozen Federal Reserve officials, including New York Fed President Williams and Fed governors Waller and Bowman, are particularly noteworthy. Any information they provide about when to cut rates again will be closely watched.

This week is also busy with economic data, as Wall Street is focusing on U.S. factory activity and manufacturing data to assess economic health; due to the U.S. government shutdown, the monthly non-farm payroll report may not be released on time, making other economic data particularly important. Earnings from McDonald's (MCD.US), fast-food giant Yum Brands (YUM.US), Uber (UBER.US), and Lyft (LYFT.US) will also help Wall Street gauge consumer confidence. Analysis shows that more than half of the S&P 500 constituent companies have reported quarterly earnings, and the index is expected to achieve growth for the ninth consecutive quarter, with profits projected to increase by 13%, nearly double the pre-season expectation of about 7%.

Yardeni stated, "If you have cash on hand, buy on dips. But don't take the risk of shorting, expecting a significant decline in U.S. stocks. I don't think the stock market will see a major correction of more than 10% in the short term."