Not everyone is an investor. But thanks to platforms like Public and Robinhood, you do not have to have a degree in economics or work at Goldman Sachs to get in on the stock market action. Once reserved for only the most savvy of analysts and the wealthiest of investors, the playing field is far more level — at least in terms of accessibility.
However, having access to opportunities and knowing what to do with them are two very different stories. In particular, there is something known as the Fear and Greed Index (developed by CNN) and it directly impacts how successful one can trade traditional stocks or even crypto currencies like Bitcoin. So, if traders are ready to dabble those toes into the stock market, crypto, or both, keep on reading to learn about this critical tool.
What Is The Fear And Greed Index?
Whether a person is trading crypto or traditional common stocks, the Fear and Greed Index is a tool that helps decide when to jump into a commodity, when to hold it and when to run for the hills. This tool was developed by CNNMoney (now CNN Business) and is used to determine when the market is overvalued or undervalued. In short, this index helps decide at a glance whether it is a good idea to buy, sell or hold positions.
While the Fear and Greed Index does look at the actual value and momentum of the stock market, it also takes into account the intangibles — emotions. Do investors or traders currently feel like the market is in a good place? Or, do they view it as being overvalued? To better understand how greed and fear play into the market, consider the below real-world examples of how investor sentiment influenced stock prices.
Fear vs. Greed And Its Impact On Stocks
While hard analytics do play a part in picking stocks and deciding when to enter or exit a trade (also known as buying and selling), the reality is that emotions are also a driving factor. And being able to predict investor sentiment can help one make the right call to maximize gains and minimize risks.
When Greed Wins
Sometimes investors hop into a trade because of FOMO. While the acronym stands for “fear of missing out,” in this scenario that emotion is all greed. A good example of this would be the recent Tesla stock bump in mid September 2023. It occurred immediately after Morgan Stanley upgraded its rating of the EV maker and predicted that the car company could boost market capitalization by more than $1 trillion. In response, the stock enjoyed a one-day $80 billion rally as savvy and novice investors jumped to snap up shares in hopes that they could hold on for a future payday.
When Fear Takes Over
Conversely, when a stock experiences a massive sell off, this is almost always driven by fear. And in most cases there will usually be some real-time news story associated with that sudden loss. For example, “Sex and the City” fans that migrated to the “And Just Like That” reboot will remember the infamous Season One scene where Carrie’s husband, “Big,” dies after a vigorous ride on his Peloton bike.
When that episode aired on Dec. 9, 2021, the following day the fitness brand’s stocks plummeted 11.3 percent to a 19-month low and continued to drop more than five percent the following day. In short, investors got spooked that Big’s untimely demise at the wheels of the Peloton would scare off potential fitness buyers. While Peloton tried to play it off by blaming Big’s rich diet complete with cocktails, cigars and red meat, the brand was left with egg on its face as experts questioned why no one in the marketing team thought to screen how the bike would be used in the script before loaning it to the show.
Applying The Fear And Greed Index To Make Trades
While the previous examples help to underscore how emotions drive the stock market, keep in mind that the actual Fear and Greed Index does not look at individual stocks but rather general trading markets with the S&P 500 specifically under review. When reviewing the index, one can look at daily, weekly, monthly and yearly analyses to help determine the right time to enter the market.
Just remember, fear means prices are low and greed means prices are high. To make it more confusing for newbies, most savvy investors and market experts will advise to buy low and sell high. So, using the Fear and Greed Index, this means that assuming one has done the homework on specific stocks to buy, watching the index to see consistent fear analyses week-over-week means that it is time to enter the market. Meanwhile, if an investor is trying to find the right time to exit and take a profit, consistent weekly greed ratings are a green light to get out.
Understanding The Scores And Indicators
The Fear and Greed Index might be based on intangibles like feelings, but it is still rooted in hard numbers and clear indicators based in fact. There are five scores or sentiments that the index uses:
– Extreme Fear: 0 to 24
– Fear: 25 – 44
– Neutral: 45 – 55
– Greed: 56 – 75
– Extreme Greed: 76 – 100
Meanwhile, the seven indicators that influence the fear versus greed scores are:
– Stock Price Momentum: compares the S&P 500 versus the 125-day moving average
– Stock Price Strength: comparing the 52-week high versus 52-week lows on the New York Stock Exchange (NYSE)
– Stock Price Breadth: this refers to the trading volume (buying and selling) the stocks are experiencing
– Put and Call Options: If there are more calls (buy) than puts (sell) then the market is in a greedy stage. When there are more puts than calls, it is in a fear stage.
– Junk Bond Demand: determining the difference between yields on investment-grade bonds and junk bonds
– Market Volatility: uses the 50-day moving average to interpret the CBOE’s Volatility Index (VIX)
– Safe Haven Demand: comparing how stocks are performing against treasuries
Fear And Greed For Stocks vs. Crypto
The CNN Business Fear and Greed Index is exclusive to the stock market since it primarily relies on the S&P 500 as an indicator of investor sentiment. If a person is trying to trade crypto, there is the Crypto Fear and Greed Index from Alternative.me that follows Bitcoin and other cryptocurrencies. The concept is still the same but the metrics used to gauge investor sentiment are slightly different. Key metrics include:
– Price volatility for the past 30 and 90 days
– Market volume and momentum
– Social media mentions on X (formerly Twitter) by following coin hashtags
– Bitcoin market capitalization dominance Google trends related to Bitcoin search terms
The Bottom Line
Investing in the stock market or crypto is not for the faint of heart — especially as you start pouring more and more money into virtual assets that you don’t physically hold in your hands. While Fear and Greed Indexes can give you a good idea of how the market is moving, it’s not a substitute for performing due diligence. You should always perform a proper evaluation of a particular stock or cryptocurrency before investing in it.