What Is the State Street Investor Confidence Index?
The State Street Investor Confidence Index is an index that measures institutional investor confidence. The index looks at actual levels of risk taken by investors in their portfolios and reports the figure on the last Wednesday of each month. It is not meant to predict future stock market movements.
Key Takeaways
- The State Street Investor Confidence Index looks at actual levels of risk taken by investors in their portfolios, which in turn says how confident they are.
- Generally speaking, when investors are willing to take on higher risk, they have higher confidence.
- The index is not meant to predict stock market movements, though it is forward-looking.
- The index is calculated by gathering portfolio data, sampling allocations, and synthesizing trends into a single numerical value.
- The index is global, composed of regional components, and based on activity in 45 countries.
Understanding the State Street Investor Confidence Index
Confidence in the economy and capital markets is a key driver of economic and financial fluctuations and the business cycle. When confidence increases, consumers and investors want to buy consumer goods, durables and invest at prevailing prices. When confidence decreases, spending and risk-taking tend to fall. Investors are said to be confident when the news about the future is good and stock prices are rising.
However, quantitatively measuring shifts in investor sentiment presents a unique set of problems to researchers. Investor surveys are often outdated by the time they are released and accuracy can be compromised as decision makers are often too busy to fill out surveys. Survey responses, like prices, tend to obscure the effects of fundamentals and investor sentiment.
The State Street Investor Confidence Index measures confidence by looking at actual levels of risk in investment portfolios. Unlike other confidence indices, it is not an attitude survey. The State Street index measures confidence by taking into account the changes in institutional investors' equity holdings. The more of their portfolio that institutional investors are willing to invest in equities, the greater their confidence.
An index value of 100 may indicate market apathy where investors have neither high confidence nor low confidence. Alternatively, a value of 100 could be seen as market disagreement if half of investors are overconfident and half are not.
State Street Investor Confidence Index and Market Sentiment
Market sentiment is the general prevailing attitude of investors as to how prices in a market will develop. This attitude is formed by the accumulation of numerous factors, including price history, economic reports, seasonal factors, and current events.
If investors expect the stock market to rise, the sentiment is said to be bullish. If investors expect the stock market to fall, the market sentiment is bearish. It is believed to be a good predictor of market moves, especially when it is more extreme. When a market sentiment indicator moves to an extreme level, it may indicate the underlying market is about to change direction. Market sentiment is monitored with a variety of technical and statistical methods, such as the number of advancing versus declining stocks and the comparisons of new highs versus new lows.
Additional indicators exist to measure the sentiment specifically of foreign exchange markets. Various retail foreign exchange brokerage firms publish positioning ratios (similar to the put/call ratio) and other data regarding their own clients' trading behavior. Unlike most measures of market sentiment, which measure attitudes, the State Street Investor Confidence Index measures actual holdings.
A higher value denotes a greater appetite for danger, whilst a lower one denotes a greater aversion to it.
How the State Street Investor Confidence Index Is Structured and Prepared
The State Street Investor Confidence Index is global and is based on activity in 45 countries. The report tracks tens of millions of transactions annually. There are also three local components: North America, Europe, and Asia-Pacific. The separate weightings of the three components vary month to month based on investment activity. There are several key activities in producing the index such as:
- Gathering Data: State Street Global Exchange gathers and examines information on institutional investor trading activity. They collect data from many different places including institutional investment managers, pension funds, and other financial entities.
- Selecting Sample Participants: The index places a strong emphasis on institutional investors and their trading behaviors. In order to ensure variety and representativeness, State Street normally chooses a sample of sizable institutional investors to represent various geographic areas and market niches.
- Quantifying Risk Appetite: State Street examines the purchasing and selling behavior of the chosen institutional investors to quantify risk appetite. Based on the degree of risk associated with the asset class, market sector, or region at issue, they give each trade a numerical value. For instance, compared to fixed-income trading, stock trades may have a larger risk value.
- Calculating the Index: The State Street Investor Confidence Index is then calculated by accumulating and synthesizing the findings in the quantification stage above into a single numerical value.
Usefulness of the State Street Investor Confidence Index
The index has many strengths and uses. First, it offers a useful indicator of investor sentiment as it reflects institutional investors' collective opinions on market risk and confidence by examining their trading activities. It can assist investors in gaining understanding of the general market mood and possible changes in trading behavior of others.
The index is regarded as a leading indicator since it captures investors' present behavior and expectations. Investors can anticipate fluctuations in market sentiment and potentially make better investing selections by anticipating changes in investor confidence, as this frequently precedes changes in the market. As opposed to being just a survey of the past, there is forward-looking value in the index.
The index also collects information from institutional investors all over the world, giving it a global perspective on investor sentiment. It enables comparisons and the identification of potential divergences in confidence levels, assisting investors in gauging sentiment across various markets and geographical areas. The publications are also frequently published on a regular basis, so investors can stay updated about shifts in market confidence in relatively short turnaround.
Limitations of the State Street Investor Confidence Index
Despite its strengths, the index is also not typically useful in other areas, and it is not typically a good indicator for timing stock trades. Recall that the index is global. Therefore, it may not always align with local market movements. Regional components of the index may align better, as the market sentiment in an emerging country, though a factor for trading securities in the U.S., may be less of a concern compared to other factors.
The index tracks institutional investors, and institutional investors drive prices but don't always get it right. Sometimes they are loaded up at the wrong time, and other times they fail to load up at the right times. Therefore, there is somewhat of a misrepresentation of all investors or traders as a wide demographic of non-institutional investors are not included.
There are also multiple factors that may weigh on institutional investors' appetite for risk aside from just stock price levels. Though a broad index communicating high-level sentimental may be helpful in some situations, different investors may have different concerns. Therefore, though sentiment may be high or low, different participants surveyed may actually feel quite differently about the interworkings of the market.
Last, per State Street, the index is not meant to predict market events. It is simply a tool showing institutional investors' appetite for risk as it relates to equity purchases. Though there is some forward-thinking sentiment in the index, there really is only uncertainty that even accumulated market sentiment may not get correct.
The lowest the index has been since 2013 was in the winter of 2019. In January 2019, the index calculated its one and only reading under 70 (69.4).
Example of How to Use the State Street Investor Confidence Index
The Confidence Index figures are often used as a rationalization for past stock market movements or to predict future stock price movements. This is not the function of the index. The index is used to show the level of confidence, as the index may or may not move in tandem with stock market prices.
For example, in 2014, the index reached 123.9 in September, the highest reading that year. This corresponded to a 7% drop in the between September and mid-October. In June of 2015, the index hit 127.1, the highest reading of that year, and the S&P 500 declined more than 12% between July and late August.
On the other hand, the index demonstrates when sentiment in the market is low or lower. In late 2018, the index held below 90 during a 20% decline in the S&P 500, and remanded even lower below 80 throughout the entirety of a four-month rally in which the market regained all of 2018's losses.
In early 2023, as markets entered the precipice of several major financial institutes going bankrupt, sentiment remained below 80 between December 2022 and February 2023. Though the index had not yet breached 85 as of April 2023, the year-to-date return of the S&P 500 as of mid-May was up 8%.
State Street Investor Confidence Index vs. CBOE Volatility Index (VIX)
These two indexes measure different things, although both look at the sentiment. The volatility index (VIX) moves inversely to stock indexes. When the VIX is low, it indicates complacency, with investors indicating they are not worried. When VIX begins to rise, it indicates heightened fear in the marketplace. Like with other indexes, an extremely high VIX reading may forewarn of a rebound in stock prices.
Another major difference between the two is how each is calculated. The Investor Confidence Index is often determined by analyzing the trading behavior of institutional investors and determining the level of risk involved in those transactions, while the prices of options on the S&P 500 index are used to compute the VIX.
How Is the Investor Confidence Index Calculated?
The ICI is prepared by analyzing institutional investors' trading activity and assessing the level of risk associated with their transactions. This data is used to calculate a numerical value representing investor sentiment and confidence, indicating their level of risk appetite or risk aversion in the market.
How Does Investor Confidence Affect the Stock Market?
The stock market is significantly impacted by investor confidence. When investor confidence is high, purchasing activity and stock demand often grow. This may boost stock prices and support an optimistic market outlook. On the other hand, when investor confidence is low, there may be pressure to sell and a lack of demand, which results in falling stock prices. Investor confidence influences market patterns and affects overall market performance as a psychological component.
What Drives Investor Confidence?
A very wide number of items contribute to investor confidence. These include market sentiment, business earnings reports, market stability, interest rates, geopolitical events, and economic indicators (such as GDP growth and employment data). Investor confidence is typically enhanced by positive advances in these areas and a positive perspective for the future, whereas investor caution is typically heightened by negative or unknown circ*mstances.
When Did State Street Begin Publishing the Investor Confidence Index?
State Street Global Exchange has been publishing the Investor Confidence Index (ICI) since 1998.
The Bottom Line
The Investor Confidence Index is a measure of investor sentiment that reflects the level of confidence or risk appetite among institutional investors. It provides insights into their outlook on market conditions and investor willingness to take on investment risk. The index is typically calculated based on analysis of institutional investors' trading activity and their associated risk levels.
