When it comes to investing, every experienced investor knows how important it is to manage the behavioral impulses of emotional buying and selling. Unfortunately, these behavioral impulses can come from following the market’s ups and downs. But buying investments at peaks and selling at market bottoms is not what experienced investors do. So how do they manage to keep a well-diversified portfolio and enjoy overall returns? How can investors navigate volatile markets?
Well, it is simple. Nowadays, emotions are driving the market. But how can you know what emotion is driving the market today? The key is to understand what is emotional investing. Mostly, when investors don’t have control of their emotions, they make poor decisions, which may lead to unwanted results.
In other words, investing based on emotion, like greed or fear, is the main reason why so many people are making poor decisions. For example, buying at market tops and selling at market bottoms. Moreover, according to CNN, there are seven fear and greed indicators worth taking into account as they are responsible for investors’ poor decision making. So, which one is driving the market now? Let’s review all seven indicators.
CBOE Volatility Index – VIX – Market Volatility
Source: Market Watch
This popular index was created by the Chicago Board Options Exchange (CBOE) and is a neutral reading. It indicates that market risks appear low as it measures the stock market’s expectation of volatility. In other words, VIX is a real-time index that provides a measure of market risk and investors’ sentiments. Currently, the index measures the volatility of 500 stocks. Moreover, it measures the market’s expectation of stock market volatility, as reflected in the S&P 500 option prices.
McClellan Volume Summation Index – MVSI – Stock Price Breadth
Source: Market in Out Stock Screener
The McClellan Volume Summation Index, shortly MVSI, is a breadth indicator. It is calculated as a running total of the McClellan Volume Oscillator values. In other words, it is based on stock advances and declines. Some investors say the MVSI is the long-term version of the McClellan Volume Oscillator, as it is more suited to major trend reversals. Moreover, the index measures advancing and declining volume on the NYSE.
Net New 52-Week Highs and Lows on the NYSE – Stock Price Strength
Stocks hitting 52- week highs are more than those hitting lows. However, stocks hitting 52-week lows are at the lower end of its range. And this is a fear indicator.
Difference in 20-Day Stock and Bond Returns – Safe-Haven Demand
Bonds have outperformed stocks by 2.43 percentage points during the last 20 trading days. Moreover, this is close to the weakest performance for stocks relative to bonds in the past two years. Also, it indicates investors are fleeing risky stocks for the safety of bonds.
CBOE 5-Day Average Put/Call Ratio – Put and Call Options
The put-and-call ratio is used to forecast the overall mood of the market. When buying more puts than calls, a rise in bearish sentiment should be expected. On the other hand, buying more calls than puts suggest a bull market.
So, during the last five trading days, volume in put options has lagged volume in call options as investors make bullish bets in their portfolios. However, this is still among the highest levels of put buying. Moreover, something like this has not been seen during the last two years. So, it would be safe to say investors are experiencing extreme fear.
S&P 500 and Its 125-Day Moving Average – Market Momentum
Source: Yahoo! Finance
A moving average (MA) helps smooth out price action. And the S&P 500 is slightly below its 125-day average. Moreover, during the last two years, this index has typically been above this average. So, rapid declines like this show significant levels of fear.
Yield Spread: Junk Bonds vs. Investment Grade – Junk Bond Demand
A yield spread is the difference in yields between two bonds. Typically, yield spreads yields are expressed in basis points — for example, one-hundredth of a percentage point.
Moreover, investors in low-quality junk bonds are accepting 1.96 percentage points in additional yield over safer investment-grade corporate bonds. On the other hand, while this spread is historically low, it is sharply higher than recent levels. Further, it suggests that investors are becoming more risk-averse.
Bottom Line | Fear Greed Index
By understanding the risks associated with investments, investors have better chances of making the right decisions that are not based on emotion. As time has shown, during periods of market volatility and rising interest rates, investors often move funds from riskier stocks to lower-risk interest rate securities. Moreover, staying the course through short-term volatility is often the key to longer-term success. And by knowing what the fear and greed index is, investors have more real chances.