When trading or even reading market news we hear about Sentiment Index and/or Market Sentiment. We tend to see that there is a relation between these and market fluctuations. Below we discuss Why does this happen and how is it measured. But first, let’s dive into what the Sentiment Index and the Market Sentiment are:
The sentiment Index is based on investor sentiment surveys trying to measure market sentiment. It takes psychological behavior, beliefs, and sentiments and translates them into statistical predictions. The sentiment Index responds to Market Sentiment, which also responds to people´s overall beliefs and behaviors. These behaviors, beliefs, and sentiments are triggered by rational and irrational factors, and most of the time spread through the trading community thanks to imitation or mimicking.
Sentiment Index and Market Behaviour
How to Interpret Sentiment Indicators
Market Psychology
Market psychology studies the main psychological factors that affect relevant market actors at a given time. This includes behaviors, sentiments, beliefs, and more. This field aims to analyze and describe how emotional and cognitive factors from a given population affect the market overall.
Sentiments of happiness, joy, anger, fear, sadness, greed and even anxiety affect the market. Market Psychology is the academic field helping us dive deeper into what this means for the market, how traders´ sentiment generates trends, and even how much sentiment affects the market, or if this affection rate changes when the sentiment is combined with other external factors.
Market Psychology examples
In the Forex market
Brexit was one of the latest sociopolitical changes for both the European Union and Great Britain. Market uncertainty regarding how new agreements were built, and how Brexit will affect either side in the short, middle, and long term contributed to taking the Pound, the Euro, and the U.S Dollar to crazy ups and downs until all 3 reached a new equilibrium. Sentiment and reactions to the announcement on how the Brexit process was doing contributed to sudden market changes.
In the Stock Market
Let’s say Stock investors lose confidence in world economic health because of an external factor: be it an international body’s decision-making process, government actions, or even rising tensions between 2 or more countries. However, looking back at the company’s financial performance they see it’s been doing great.
Nevertheless, to safeguard their investments in the short/middle term they decide to pull back on buying. As a result, index tracking overall market prices will fall, and eventually, individual stock prices will do too.
In the Cryptocurrency Market
El Salvador is a Central American Country that accepted bitcoin as a legal tender. Only sometime after the vote Bitcoin was 5% up. Then it jumped to 6%, just over $37,000. This sudden price change could be explained by people´s reaction to El Salvador’s decision which triggered uncertainty, doubt, and criticism.
Sentiment Indicators
The Sentiment indicator is used to represent how people feel about the market. News, statements, and relevant actors’ decision-making on key issues trigger Sentiment Indicator oscillation. The indicator aims to quantify the sentiment and display it graphically. Further on, it predicts how sentiments, beliefs, and people´s expectations can affect the market. Sentiment indicators show traders how pessimistic/optimistic is people with the market.
How to Interpret Sentiment Indicators
Below we introduce you to the main Sentiment Indicator hacks:
- If the sentiment indicator is moving in the same direction as the market, it can be a trend confirmation.
- Sentiment Indicators are only one piece of the puzzle and their aim is not to give you a signal on when to take action. These indicators help you to identify turning points when the sentiment will hit tits higher / lower points and will cause an effect on market prices.
- When the Sentiment Indicators are not pointing to their extreme, they can be used as a way to get confirmation of a current trend.
One great way to see how Sentiment Index and Market Sentiment affect Market Behavior is to be aware of the latest news and the Market responses to it. You can also open a Demo Account to test Sentiment Indicators and see how they fluctuate over time.
By: Sara Obando
