There are two times during the year where extreme bullish sentiment need not be a contrary indicator. The first is the period from late December to early January where many receive bonuses and the second is tax refund season. During these times many are flush with cash and prevailing bullish sentiment actually encourages them to put the money into the market. However, once these seasonally strong periods pass there usually is a correction.
Currently we are in tax refund season, which helps explain why the market has been able to rise relentlessly despite overly bullish sentiment for a few weeks now. However, positive seasonality is coming to an end over the next few weeks.
As I outlined yesterday, bullish sentiment is at an extreme seen once every few years. There will be a lot of supply of new stock as the government likely starts selling shares of Citigroup next week (once Citigroup reports earnings) and there have been rumblings of other secondaries and IPOs.
Rarely have so many factors been pointing to a major top. I would point out that currently sentiment is the only factor pointing to a top and that the other factors will come into play over the next few weeks. That is why I plan on expanding my small short position to a large position over the next few weeks.