The Crypto Fear and Greed Index is a tool used to measure the overall sentiment of the market. It is an iteration of the Fear and Greed Index used in the stock market to gauge consumer sentiment. When the indicator moves towards “fear”, it means more people are ready to sell than buy. Similarly when the indicator shows “greed”, it typically means that more people are inclined towards selling.
The index was developed by Alternative.me, a well-known provider of affordable alternatives to premium software.
What is the Crypto Fear and Greed Index?
Overall, the Crypto Fear and Greed Index is an indicator that shows the overall sentiment prevailing in the cryptocurrency markets. The index relies on several factors such as volatility, market volume, momentum, and on-ground intelligence through customized surveys and social media analysis.
The index displays a score from 0 to 100. Here a score closer to 0 would mean extreme fear in the market which shows that market participants are ready to sell their holdings at any price because they anticipate a further fall in the markets. Similarly, a score near 100 would mean extreme greed and the willingness of market participants to buy at any price because they anticipate the market to go even higher.
The score is used by several investors and traders to gauge market sentiments, create strategies, and confirm their assumptions.
Below is a Tweet from Balance Network which shows how the Crypto Fear and Greed Index helps gauge market sentiment.
The Psychological Basis for Fear and Greed
The cryptocurrency and DeFi markets are mostly filled with non-professional investors like any other market even though they control only a small percentage of the total crypto supply.
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This helps professionals use behavioral finance and predict the reaction of markets to a certain extent. The reason why behavioral finance is often accurate is because most markets operate either in a bullish or a bearish mood.
Fear is the situation when the overall market thinks that prices are going to fall even further. Similarly in a bullish mood, participants expect markets to rise higher and higher which makes the market greedy as a whole.
Need for a Crypto-Focused Fear and Greed Index
Originally developed by CNN, the Fear and Greed Index was designed to get an overview of the market sentiments and whether equity shares were fairly priced.
The logic behind the index was that excessive fear tends to a situation where stocks are oversold and therefore become undervalued. Similarly, in a situation where there was extreme market euphoria, stocks began to be bought at all prices leading to being overbought.
The Crypto Fear and Greed Index is based on the same principle as CNN’s Fear and Greed Index and has been designed by Alternative.me, a well-known brand to provide cheaper and often free alternatives to premium software and web apps.
The need for a fear and greed index is most felt when checking an overall trend for crypto markets. This index takes into account multiple things such as volatility, traded volume, trends, and sentiment analysis to give you a composite result of the overall market mood.
Also since crypto markets are worth more than $1.5 Trillion, its high time for a need of a specialized index.
Therefore, a score towards extreme fear might be a good buying opportunity, and similarly, extreme greed would provide a good opportunity for booking profits.
Beginner’s Guide to Crypto Fear and Greed Index
For beginners, it is essential to understand the concepts of overbought and oversold crypto in the markets.
Being overbought means that the market participants (traders and investors) are willing to buy at any price even if it’s a bit higher. This is because they expect the prices to rise even higher. This creates a “Greedy” situation.
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So, when the Crypto Fear and Greed Index shows a number above 50 it means that the markets are getting greedy. A score near 100 shows that the markets are extremely greedy.
Similarly, being oversold means the market participants are willing to sell their shares at any cost because they expect the prices to fall even lower. This creates a situation of “Fear”.
Similarly, when the Crypto Fear and Greed Index shows a number below 50 it means that the markets are getting fearful of even lower crypto prices. A score near 0 shows that the markets are extremely fearful and are ready to sell at any price.
Alt Text– Crypto Fear and Greed Index Scores between 1 Dec 2022- 30 Nov 2023
How is the Data Calculated?
The index is a composite of several factors which are indicators of market trends such as market share of crypto, Google trends, News from major media organizations, surveys, social media analysis from Twitter, volatility, momentum in price (probably with RSI), and other technical indicators.
We have explained all of them in detail.
Data Collection from Surveys and News Articles
A major source for understanding market sentiment is the usage of news articles, reports, and media trends in major publications that cover all areas of crypto such as news aggregators, top crypto media houses, and micro niche websites that only report on hackings, price predictions, etc.
Market Trends
Market trends are the overall buying or selling direction in the market. Typically it is gauged from Google search data through bulk keyword search. Each search term is associated with a certain volume of keywords. Analyzing those volumes together with all the variations of those keywords gives a final number.
For example, if there is an increased number of searches in “bitcoin crash” on a certain day, it would indicate a trend toward people selling bitcoin and this data will help
Dominance of Major Coins
The dominance of crypto shows how much of a market share that crypto (in this case, Bitcoin) commands. For example, Bitcoin has been at roughly 50% market share in the last few years. This means Bitcoin has a 50% dominance.
Surveys
The surveys are an important source of data to gauge on-ground customer sentiments. Alternative.me has paused sharing data from past surveys.
The surveys were conducted with an in-house surveying agency called strawpoll.com. The sample size would be around 2000 – 3000 respondents for each survey.
Social Media Analysis
Social media posts from X.com and Reddit. Though they have yet to integrate posts from Reddit.com, the other social media in active use is Twitter (X.com).
Posts belonging to different hashtags are gathered, and their numbers are calculated. Further, interactions with each post, comments, likes and shares were also taken into account and the frequency of these interactions gave a measure of social media sentiment on overall crypto markets.
Alternative.me calculates this social media score for most cryptocurrencies but public data only for Bitcoin is made available.
Volatility
Volatility has a 25% weightage and is also the most major component in calculating the crypto fear and greed index. Volatility and maximum drawdowns are measured for Bitcoin for a certain day and compared with the corresponding values in the last 30 days and 90 days.
Market Momentum and Volume
The market momentum and trading volume are also measured and compared with the last 30 days and the last 90 days of data.
Generally, Alternative.me concludes that high volumes in a positive market can be considered as an increase in the greed factor. Similarly, for a negative market, more volume would mean an increase in fear.
Weightage Associated With These Factors
Each factor discussed above has a unique weightage associated with that factor because of its impact on market sentiments.
- Market Volume and Momentum have the highest percentage contributing 25% to the composite score
- Volatility has the highest weightage of 25% since a panic or euphoria would first result in increased buying and selling which contributes to volatility in prices.
- Social media and surveys, which are direct ways of knowing on-ground sentiments, have a 15% weightage each in the fear and greed index score.
- Dominance has a 10% contribution to the score and is a long-term component of the index score.
- Finally, data from Google search trends contribute 10% to the overall score.
What if a Factor is Paused or Stops Data Collection?
If a factor is paused, let’s say surveys, the weightage of other sources of data collection increases by a certain proportion.
Graphics and Visualization
Graphics are created when the above factors are merged to create a composite score. The score is displayed as a meter and is refreshed every day. The dial shows 0 (extreme fear) to 100 (extreme greed).
How does the Crypto Fear and Greed Index Work?
The index shows a score from 0 to 100 where a score of 0 would mean that there is extreme fear in the markets and a score near 100 would mean extreme greed or euphoria in the markets.
Scores in the middle i.e., near 50 would mean a neutral market mood. It also indicates that the markets are about to change directions.
The Crypto Fear and Greed index score is updated daily.
Is it a Leading or Lagging Indicator?
A leading indicator tends to predict the direction of market movements based on present results while lagging indicators are those which look at past data and help confirm trends.
Based on the above, the fear and greed index comes out as a lagging indicator.
3 Ways to Use the Index as a Pro Investor
Professional investors and traders use the Fear and Greed Index to know about market directions and implement some advanced trading strategies.
Contrarian Investing or Trading
Contrarian investors or traders are those who go against market trends because they have sufficient reasons to believe that the market will change directions soon.
When the Crypto Fear and Greed Index is at extreme levels, near 0 or 100, professional investors see it as an opportunity to invest. Though it may seem easy, investing in a situation where everyone is against you takes some courage.
An easy way that experts use to earn massive returns in crypto markets with arbitrage.
Confirmation of Trends
Advanced traders also rely on the Crypto Fear and Greed Index to confirm trends. If there is a bearish medium to long sentiment in the markets, the index would typically show values less than 30. Similarly, for bullish times, the trend would show momentum above 70.
Portfolio and Risk Management
Investors with a large amount of capital cannot buy and sell at every major market movement. But they also need some kind of protection for portfolio management during uncertain events.
These investors rely on Crypto Futures and Options to hedge their funds. However, they would not be able to do so if there is no confirmation of market trend because both futures and options are directional and would be able to protect your capital on one side.
Here, the need for a Crypto Fear and Greed Index arises. The index gives a rough estimate of the overall market sentiment and helps in risk management.
Bitcoin Fear and Greed Index vs Crypto Fear and Greed Index
Though both of them have different meanings, the current fear and greed index shows data mostly for Bitcoin. This is because the market is still heavily dominated by Bitcoin which makes up nearly 50% of the total market cap.
Though the indexes for both would still differ by a bit, we can use both of them interchangeably with reliable accuracy.
Advantages and Limitations
There are several advantages associated with using the index. Some of these are:
- The greatest benefit of using the index is that it shows the overall sentiment prevailing in the market.
- The index also helps to gauge and confirm market trends.
- It provides opportunities for contrarian trades.
- Fear and Greed Index also helps in hedging capital from uncertain conditions.
- Since the index aligns with the principles of behavioral finance, it gives a good estimate of shifts in market sentiments.
However, there are also some advantages associated as the index is unable to give precise results.
- The factors used in the calculation of Crypto Fear and Greed Index are not exhaustive. Several indicators such as support and resistance levels, on-chain metrics, and other important indicators are not used as a part of the index yet.
- Since it is a lagging indicator, it cannot provide insights into the near future. Crypto markets are highly volatile, especially near events, and the index proves to be less useful in those times.
- False signals are a very common aspect of trading in any market. For example, an increase in volatility does not always lead to a continuation of a trend.
- The index does not take into account fundamental changes in the markets which are the prime drivers of crypto prices.
- The Crypto Fear and Greed Index relies on sentimental data from social media which several times consists of bots trying to create a false hype.
Conclusion
The Crypto Fear and Greed Index is a very useful tool to gauge the overall market sentiments. It is a composite score developed by the amalgamation of various signals and indicators such as Google Trends, Social Media trends, volatility data, market volume, and market momentum data.
Using the index, investors can take benefits from changing market trends, manage risk, protect capital, and take contrarian moves with confidence. However, there are also several limitations attached to the index such as being a lagging indicator, lack of fundamental data, market manipulation, and sometimes false signals.
However, the index has always proven to be very helpful for all levels of investors and traders who use it to confirm market sentiment.
