Right now, it certainly doesn’t feel like there’s much upside risk in the market. Sentiment is bleak, uncertainty is high, and recent price action has been anything but reassuring. But history suggests that sharp declines in sentiment often precede strong market rebounds. Could this be one of those times?

One of the most widely followed sentiment indicators, the American Association of Individual Investors (AAII) bull-bear spread, has taken a dramatic plunge. The latest collapse in this spread is one of the most extreme we’ve seen in quite some time. Historically, when investor sentiment reaches such pessimistic levels, it has often set the stage for significant market recoveries.

The chart comparing the AAII bull-bear spread to the NASDAQ highlights this relationship. Time and time again, deep negative readings in the sentiment spread have been followed by strong market bounces. While past performance is never a guarantee of future results, the pattern is hard to ignore.

So, while the market mood remains grim, contrarian investors might see opportunity here. Extreme bearish sentiment can signal a crowded trade, and when the tide shifts, the rebound can be swift and powerful.

Will this time be different? Or are we on the verge of another sharp recovery? Only time will tell, but history suggests that betting against extreme pessimism has often paid off.