MW What record levels of uncertainty mean for the stock market

By Mark Hulbert

It's not always a bad thing

Contrarians see a silver lining in the Global Economic Policy Uncertainty Index recently hitting an all-time high.

This index, created by Scott Baker of Northwestern University, Nick Bloom of Stanford University and Steven Davis of the University of Chicago, measures the frequency of newspaper articles that contain references to the economy, policy and uncertainty. As you can see from the accompanying chart, this index recently broke its previous record, which was set in early 2000 during the initial phase of the economic lockdown accompanying the COVID-19 pandemic.

It's easy to understand why the GEPU index is at an all-time high, given chatter about World War III and concern that deep cuts to the federal workforce could precipitate a recession. But that's just the beginning. There's also uncertainty about if and when President Donald Trump will impose tariffs on Mexico and Canada and increase them on China; anxiety about the consequences of the so-called Mar-a-Lago Accord, which calls for a complete reordering of the global monetary system; and the possibility that the U.S. government could face a debt-crisis "heart attack" within three years. And the list goes on.

What many find harder to understand is how record levels of uncertainty can be a good thing. But contrarians teach us the importance of distinguishing between how the stock market reacts while uncertainty is increasing and how it performs after uncertainty has already increased. Contrarians readily agree that the stock market performs less well while uncertainty is increasing. But once increased uncertainty has caused prices to be lower than they otherwise would have been, the outlook for stocks will have improved.

The stock market over the last several months would have performed better had the GEPU index not gone up as dramatically as it did. This is confirmed by measuring the correlation between the GEPU index's and the S&P 500's trailing three-month changes. Since 1997, the earliest year for which GEPU data are available, there has been a strongly inverse correlation, with increases in the GEPU index correlated with lower S&P 500 returns, and vice versa.

The opposite relationship emerges when we focus prospectively rather than retrospectively. Now there is a strongly positive correlation, with higher GEPU levels associated with higher subsequent S&P 500 SPX returns, and vice versa.

As Warren Buffett of Berkshire Hathaway $(BRK.A)$ $(BRK.B)$ famously once said, investors should be fearful when others are greedy and greedy when others are fearful. While we're not at the extreme fear end of the spectrum, we're closer to it than to the greedy end. Contrarians therefore wouldn't be surprised if the stock market exhibits surprising resilience in coming weeks.

What about market timers in other arenas?

This assessment is confirmed by the status of the two stock-market sentiment indexes that are maintained by my firm. They reflect the average recommended equity exposure level among two sets of short-term markets: Those that focus on broad market indexes such as the S&P 500 (the Hulbert Stock Newsletter Sentiment Index, or HSNSI) and those that focus on the Nasdaq COMP in particular (the Hulbert Nasdaq Newsletter Sentiment Index, or HNNSI).

As you can see from the chart below, both show that market timers are relatively cautious right now. That's a big change from a month ago, when the HSNSI was very close to the extreme optimistic end of the spectrum - higher than 95% of all daily readings since 2000. The S&P 500 fell 1.4% for the month.

In addition to the HSNSI and the HNNSI, my firm calculates two other sentiment indexes: One for the gold market and one for the U.S. bond market. The chart below summarizes where all four sentiment indexes currently stand relative to their histories.

Mark Hulbert is a regular contributor to MarketWatch. His Hulbert Ratings tracks investment newsletters that pay a flat fee to be audited. He can be reached at mark@hulbertratings.com.

-Mark Hulbert

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March 03, 2025 15:24 ET (20:24 GMT)

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