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What is the Fear and Greed Index?

What is the Fear and Greed Index?

The Fear & Greed Index is an indicator developed by CNNMoney to measure investor sentiment toward the stock market. CNNMoney believes that investors are affected by two emotions: fear and greed.
Too much fear can drive stock prices far below where they should be, and when investors get greedy, it causes the stock price to be too high.
CNNMoney incorporates 7 factors into the Fear and Greed Index and measures investor sentiment on a scale of 0 to 100.
The higher the number, the higher the greed of investors, and 50 is a neutral value.
Finally, after all, indicators are weighted equally, the number of Fear and Greed Index can be obtained.

7 Keys composes the Fear and Greed Index

CNNMoney uses 7 different factors to determine the level of fear and greed in the market:

1. Junk Bond Demand

Junk Bond Demand is to measure the spread of investment-grade bonds and junk bonds ( high-yield bonds ). The spread is the reduction of the yield rate. If the market worries about the risk of junk bonds, the yield rate will rise, and the spread will widen, so investors will panic more. Conversely, narrowing spreads represent greed.

2. Put and Call Option

The put/call ratio is a well-known indicator among Options. The put/call ratio is calculated by dividing the put option’s open interest by the call option’s open interest. The smaller the ratio, the more calls there are, which means the market is more greedy. Conversely, the bigger the ratio, the more fearful the market is.

3. Stock Price Strength

Stock Price Strength is to calculate the number of stocks listed on the NYSE with a high of more than 52 weeks (over a year) compared to the number of stocks with a low of less than
52 weeks. When more stocks hit 52-week highs than 52-week lows, it is considered greedy, and fear is the opposite of greed.

4. Stock Price Momentum

is to use the latest stock price of the S&P500 index to compare with the 125 -day moving average (MA), that is, the bias ratio between the stock price and the half-year line.
When the S&P500 index is higher than the 125 -day moving average, it means that the investor sentiment is more greedy, and if it is lower, it is biased towards fear.

5. Market Volatility

The VIX (CBOE Volatility Index also commonly known as the panic index ) is applied with the 50 -day moving average (MA) as an indicator to measure volatility.

6. Stock Price Breadth

The fear and greed index uses the McClellan Volume Summation Index and is somewhat similar to the RSI indicator. Still, instead of measuring the price, it considers the trading volume. It represents the ratio of the total turnover of advancing stocks to declining stocks over a past period of time. A significant increase is greed, and a considerable decrease is fear.

7. Safe Heaven Demand

When there is a need to hedge the fund, the fund will flow into some places called safe havens, including government bonds, gold, cash, and extremely low-risk stocks.
The safe-haven demand index refers to the difference between the return of stocks and bonds. When the return on bonds is higher than that of stocks, the stock market falls severely. The higher the panic level, the higher the demand for risk reversing.

What’s the relationship between Fear & Greed Index and the stock market?

When stocks perform better than bonds, funds will gather in the stock market so that the market will behave greedily; conversely, when bonds perform better than stocks, funds will gather in the safe-haven market, and the market will behave fearfully. The higher the value, the more “greedy” the market is; the lower the value, the more “fearful” the market is.
However, many experts believe that when making investment decisions, the fear and greed index can be one of the reference tools, but it should be used together with other tools for reference. Investors can use this index to find investment opportunities and regard the greed index period as a potential indicator, suggesting that stocks may be overvalued.
The fear and greed index is not that powerful. As an indicator, it has many misjudgments, which is not directly helpful for judging long and short positions. However, it can be used to evaluate the fine-tuning of positions and serve as a reference for adjusting position risks. Looking at its 7 individual component indicators separately may be relatively more valuable compared to the overall index.

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Disclaimer: Information above can only be use for references and doesn’t represent our platform’s opinions.

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