According to Bank of America Global Research, in the final weeks before the presidential election on November 5th, the sentiment on Wall Street has turned optimistic, and this 'contrarian signal' may indicate limited upside potential for the US stock market.

Bank of America's Sell Side Indicator (SSI) tracks the average stock allocation recommended by Wall Street strategists. The data shows that this indicator climbed to its highest level in two and a half years in October, reaching 56.7% (see chart below), up 50 basis points from September. In a client report released on Friday by Bank of America's US Stocks and Quantitative Strategy team led by Savita Subramanian, the sentiment index paused briefly in September but regained its upward momentum in October.

However, this surge in sentiment is not a good sign for the stock market. Bank of America's team has long viewed the SSI as a 'reliable contrarian indicator' because overly optimistic sentiment can lead some investors to take the opposite stance—a time when most people in the market are optimistic often signals a good time to sell.

The Subramanian team stated that despite the optimistic sentiment in October, the SSI is still in a 'neutral' range, barely 1.4 percentage points below a 'sell' signal.

Bank of America strategists wrote in the report: "The current 56.7% indicator level suggests an approximate 11% price return for the S&P 500 index over the next 12 months, although lower than recent historical levels, it still roughly matches the annualized return over the past decade."

However, investors may want to seize the opportunity to 'remain selective' and focus on 'relatively unpopular' sectors in the market, such as high dividend yield stocks, large-cap value stocks, and cyclical stocks.

It is worth noting that the warming sentiment in the stock market coincides with a challenging month. Investors are gearing up for a new round of economic data, third-quarter corporate earnings, Fed policy meetings, and the election. According to Dow Jones market data, October was the worst month for the S&P 500 index and Dow Jones Industrial Average since April, while the tech-dominated Nasdaq Composite Index posted its largest monthly decline since July.

Republican candidate Trump and Democratic candidate Harris will still be the focus of the stock market attention next week, as the two candidates are neck and neck in the polls, with only a few days left until the election.

Jeff Grills, head of cross-market and emerging market debt at Aegon Asset Management in the United States, said it is still uncertain how the fierce competition of the presidential election will affect market sentiment. "What usually leads to poor market performance is 'uncertainty,' especially after election night," Grills told the media on Friday, "the longer the uncertainty persists, the more investors worry, which may lead to an increase in risk aversion in the market."

He added, "Once the election results become clear, the market should refocus on the fundamentals and gradually return to normal from the election process."

After the October jobs report fell short of expectations and further increased the possibility of aggressive rate cuts by the Federal Reserve, the US stock market soared on Friday, with tech giant Amazon (AMZN.US) leading the way, pushing up the overall market.

Nevertheless, according to FactSet data, the major Wall Street indices still closed lower this week, with the S&P 500 index falling 1.4%, the Nasdaq index falling 1.5%, and the Dow Jones index falling 0.2% this week.

Editor/rice