Contrarian Investing in a Shifting Market: Why a Dip in AAII Bullish Sentiment Could Signal Opportunity

The American Association of Individual Investors (AAII) Sentiment Survey has long been a barometer for the mood of retail investors. For the week ending July 14, 2025, the survey revealed a significant pullback in bullish sentiment, with optimism about the short-term direction of stocks declining for the sixth consecutive week. While the exact percentage for July 14 remains unreported, the broader trend is clear: bullish sentiment has fallen from 45.0% on July 2 to 39.3% by July 16, marking a 6.7 percentage point decline. This shift, while not yet extreme, aligns with historical patterns that suggest market rebounds often follow periods of widespread pessimism.

The AAII as a Contrarian Indicator

The AAII survey, conducted weekly since 1987, asks individual investors whether they expect the stock market to rise, fall, or remain flat over the next six months. Historically, extreme levels of bullish or bearish sentiment have served as contrarian signals. For instance, in November 1990, when bullish sentiment hit a record low of 12% amid geopolitical tensions and economic uncertainty, the S&P 500 surged 25.2% over the next 12 months. Similarly, in 2022, bearish sentiment exceeded 50% for five consecutive weeks due to inflation and rate hikes, yet the S&P 500 advanced 15% in the following year. These examples underscore a recurring theme: markets often move in the opposite direction of the most pessimistic sentiment.

Current Sentiment and Market Implications

As of July 14, 2025, bullish sentiment remains slightly above its 37.5% historical average but has shown a consistent downward trend. Bearish sentiment, meanwhile, has lingered above its 31.0% long-term average for 31 of the past 33 weeks. The bull-bear spread—a key contrarian metric—has narrowed to a historically neutral range, suggesting a market in transition.

This dynamic is further reinforced by external factors. The recent "One Big Beautiful Bill Act" tax legislation, which 64.4% of AAII members believe raises the national deficit too much, has contributed to investor caution. Additionally, geopolitical tensions and uncertainty around Federal Reserve policy have kept market volatility elevated. Yet, these same conditions often create opportunities for contrarian investors who are willing to act when sentiment is skewed.

Strategic Considerations for Investors

For those adopting a contrarian approach, the current environment offers several compelling angles:

1. Value in Overlooked Sectors: Sectors like utilities and consumer staples, which have underperformed amid a risk-on market, may be undervalued. For example, the S&P 500 Utilities Select Sector Index has traded at a 12-year low P/E ratio of 14.2x as of July 14, 2025, compared to the broader market's 22.0x.
2. Quality Growth Stocks: While the S&P 500's forward P/E is stretched, high-quality growth stocks with strong balance sheets and consistent earnings (e.g., technology and communication services) remain attractive. Analysts project 17.7% earnings growth for these sectors in Q2 2025.
3. Dollar-Cost Averaging: A declining market driven by sentiment shifts rather than fundamental deterioration could justify a disciplined, incremental buying strategy.

Conclusion: Buy the Dip, Not the Noise

The AAII survey's latest data signals a shift in investor psychology from optimism to caution. While market fundamentals remain mixed—with valuations elevated and geopolitical risks persisting—the historical correlation between pessimism and rebounds suggests that a strategic entry point may be emerging. Investors who focus on long-term value rather than short-term sentiment noise are often rewarded when markets correct. As the AAII's contrarian signal grows stronger, now may be the time to reassess risk tolerance and consider adding to positions in undervalued sectors or high-quality growth names.

In the words of Warren Buffett, “Be fearful when others are greedy, and greedy when others are fearful.” The current climate offers a rare opportunity to apply that wisdom.