What is 'Fear And Greed Index'

The fear and greed index was developed and used by CNNMoney to measure the primary emotions that drive investors: fear and greed. The Fear and Greed Index is based on seven indicators:

1. Stock Price Momentum - as measured by the S&P 500 versus its 125-day moving average

2. Stock Price Strength - based on the number of stocks hitting 52-week highs versus those hitting 52-week lows on the NYSE

3. Stock Price Breadth - as measured by trading volumes in rising stocks against declining stocks.

4. Put and Call Options - based on the Put/Call ratio

5. Junk Bond Demand - as measured by the spread between yields on investment grade bonds and junk bonds

6. Market Volatility - as measured by the CBOE Volatility Index or VIX

7. Safe Haven Demand - based on the difference in returns for stocks versus Treasuries

Each of these seven indicators is measured on a scale from 0 to 100, with 50 denoting a neutral reading, and a higher reading signaling more greed. The index is then computed by taking an equal-weighted average of the seven indicators.

BREAKING DOWN 'Fear And Greed Index'

The fear and greed index is a contrarian index of sorts, which is based on the premise that excessive fear can result in stocks trading well below their intrinsic values, while unbridled greed can result in stocks being bid up far above what they should be worth. According to some academics, greed, like love, has the power to affect our brains in a way that coerces us to put aside common sense and self-control and thus provoke change. While there is no generally accepted research on biochemistry of greed, no one can deny that when it comes to humans and money, fear and greed can be powerful motives.

Fear and Greed Index as a Research Tool

The fear and greed index can be seen as an indicator of a potential turn in equity markets. For example, the index sank to a low of 12 on Sept. 17, 2008, when the S&P 500 fell to a three-year low in the aftermath of the Lehman Brothers bankruptcy and the near-demise of insurance giant AIG. By contrast, it traded over 90 in September 2012 as global equities rallied following the Federal Reserve's third round of quantitative easing (QE3).

Skeptics downplay the fear and greed index as a legitimate investment research tool, seeing it more as a barometer for the market-timing crowd. However, there is a strong case to be made for its merit. Many investors are emotional and reactionary, and fear and greed are heavy hitters in that arena. 

RELATED TERMS
  1. Overreaction

    Overreaction is an emotional response to news about a security, ...
  2. Lehman Brothers Government/Corporate ...

    The Lehman Brothers Government/Corporate Bond Index is an index ...
  3. Gordon Gekko

    A fictional villain in the movie "Wall Street," Gordon Gekko ...
  4. Defensive Stock

    A defensive stock is one that provides a constant dividend and ...
  5. Index Futures

    Index futures are contracts based on a financial index, which ...
  6. S&P 500 Index (formerly Standard ...

    The S&P 500 Index (formerly Standard & Poor's 500 Index) is a ...
Related Articles
  1. Investing

    Financial Markets: When Fear & Greed Take Over

    If these unpleasant emotions are allowed to influence your decisionS, they may cost you dearly.
  2. Trading

    The Importance of Trading Psychology and Discipline

    Investing success often has more to do with a trader's mindset — trading psychology and discipline — than it does with the markets.
  3. Investing

    The Best Way to Survive a Market Meltdown

    Having a solid investing plan in place can help you survive the inevitable market downturn.
  4. Investing

    A Look at the Buy Low, Sell High Strategy

    Here's how to buy low and sell high by using objective measures to identify opportunities. Buying low and selling high is the goal of every investor.
  5. Investing

    BAML Fund Manager Survey: Fear Turning into Greed?

    Bank of America Merrill Lynch's Global Fund Manager Survey shows budding optimism on the part of investors, but Europe still has them worried.
  6. Investing

    Holding Cash Instead of Chasing Investment Returns

    How investors can avoid the hazards of chasing returns by thinking of cash as more than just a boring or an inefficient part of their overall portfolio.
  7. Investing

    How Emotions Can Lower Your Investment Returns

    Don't let emotions or the media reduce your investment returns, stick to the investing fundamentals.
  8. Trading

    Using Feedback To Improve Your Trading

    Positive and negative trading experiences can affect the way you trade. Find out how.
  9. Financial Advisor

    5 Traits the Worst Financial Advisors Share

    Learn how the worst financial advisers tend to share common traits, including greed, arrogance, ignorance and being difficult to reach when times are tough.
  10. Investing

    Price Volatility Vs. Leverage

    Learn how to effectively gauge the risk of the markets you trade.
RELATED FAQS
  1. Is the banking sector a good choice for value investing?

    Find out why the banking sector is attractive to value investors who typically look to buy discounted stocks during times ... Read Answer >>
  2. What Does 'Buy on Cannons, Sell on Trumpets' Mean?

    The saying suggests that the start of a war is a good time to invest in the stock market. Read Answer >>
Trading Center