The highly retail-focused nature of the crypto market causes emotions to play a bigger role compared to traditional markets. Crypto traders and investors often succumb to fear of missing out (FOMO) during rising markets and panic sell during downturns. Understanding the prevailing sentiment is crucial for making informed decisions and can save market participants from their own emotional reactions. The crypto Fear and Greed index is a valuable tool that measures the sentiment of the crypto market using data and market indicators. In this article, we will explore what the crypto Fear and Greed index is, how it works, and how you can use it to make better investment decisions.
The crypto Fear and Greed index is a metric that tracks the emotions and sentiments of investors towards the cryptocurrency market. It was created by alternative.me, a platform that provides insights into the cryptocurrency market. The index is a numerical representation of the degree of Fear or Greed present in the market, based on a combination of various factors.
The crypto Fear and Greed index is similar to the Fear and Greed index used in the stock market, which measures investor sentiment towards stocks. Both indexes reflect Warren Buffet’s widely-cited quote: “Be fearful when others are greedy, and greedy when others are fearful”. However, the crypto Fear and Greed index is unique in that it is specific to the cryptocurrency market, which is known for its highly volatile nature.
The crypto Fear and Greed index analyses multiple indicators to provide a metric value between 1 and 100. The index levels can be broadly separated into these categories:
-A score of 1-24 represents extreme fear
-A score of 25-49 is an indicator of moderate fear
-A score of 50 signifies a neutral market
-A score of 51-74 indicates moderate greed
-A score of 75-100 represents extreme greed
The crypto Fear and Greed Index is refreshed every 24 hours and delivers insights on the present day's index, as well as the previous day's score, a weekly average of the index, and a monthly average of the index.
It's worth noting that the Fear and Greed Index presently focuses solely on Bitcoin-related market data, rather than incorporating indicators and data for the overall cryptocurrency market. The reason for this is that Bitcoin's fear or greed sentiment tends to be closely associated with the broader digital asset market, with significant shifts in Bitcoin's price often affecting the market as a whole.
*Recommended Reading: What is Bitcoin? A Beginner’s Guide
To calculate the index, alternative.me uses a complex algorithm that analyses a range of factors and assigns a score to each of them. These scores are then weighted and combined to give an overall score for the index. The index looks at the following factors to calculate the value:
Volatility: makes up 25% of the index and is measured by comparing Bitcoin's 30 and 90-day market volatility to drawdowns. Higher volatility is associated with fear. Learn more about crypto volatility here.
Market momentum/volume: makes up 25% of the index and is measured by comparing the volume and momentum of the Bitcoin market to 30 and 90-day averages. High volume and momentum indicate negative sentiment but increase the index value, indicating greed.
Social media Sentiment: accounts for 15% of the index and is measured by quantifying the total number of social media posts related to Bitcoin and their average engagement rates. High social media interactions suggest greed.
Bitcoin dominance: accounts for 10% of the index and measures Bitcoin's market capitalisation compared to the overall market cap of the entire crypto market. Lower Bitcoin dominance suggests that investors are focusing on altcoins, indicating market greed.
Google Trends: make up 10% of the index and pull data on the frequency and intensity of Bitcoin-related search terms. Higher search interest is generally associated with greed, while negatively correlated search terms may indicate fear in the market.
Survey results: make up 15% of the index score, but this input is currently paused and has been for some time.
With Warren Buffet’s quote as a foundation, the Fear and Greed index hinges on two fundamental assumptions - extreme fear often leads to panic and overselling, which could represent a buying opportunity, and extreme greed suggests the market could be overvaluing assets, which could signal an ideal time to sell.
Many traders and investors often make decisions based on their emotions rather than logic, and fear and greed are two of the most powerful emotions that drive investment decisions. Measuring the sentiment of the market can provide valuable insights into investor behavior and help investors make more informed decisions.
*Recommended Reading: Bull vs Bear Market: What’s the difference?
Investors should be mindful of their own emotions when making investment decisions. Fear and greed can cloud judgment and lead to irrational decisions. While the crypto Fear and Greed index can provide valuable insights into the sentiment of the market, it should not be the sole factor in making investment decisions. The index is based on a combination of factors, some of which may be subjective or difficult to quantify. Moreover, market sentiment can change rapidly and unpredictably, so it is important to take a long-term view when investing in cryptocurrencies.
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