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. Trading Psychology

    Trading psychology refers to the emotions and mental state that ...
  2. Market Dynamics

    Market dynamics are the pricing signals that are created as a ...
  3. Index

    An index measures the performance of a basket of securities intended ...
  4. Indexing

    In the financial markets, indexing can be used as a statistical ...
  5. Corporate Kleptocracy

    Corporate kleptocracy describes the greed of corporate executives ...
  6. Market Index

    A market index is a weighted average of a section of the stock ...
Related Articles
  1. Personal Finance

    3 Factors That Impact Your Stock Compensation

    Complexity, volatility and greed can each play a part in managing stock compensation.
  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 Roles Fear and Greed Play in Investing

    Fear and greed both can play a negative role in financial planning and investing.
  4. Investing

    10 Timeless Rules for Investors

    Find out what most investors are doing wrong, and how you can do it right.
  5. Investing

    The Best Way to Survive a Market Meltdown

    Having a solid investing plan in place can help you survive the inevitable market downturn.
  6. 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.
  7. Investing

    A Look at the Buy Low, Sell High Strategy

    Learn 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.
  8. Trading

    Strategies To Trade Volatility Effectively With VIX

    VIX offers a bird’s eye view of real-time greed and fear, while providing a snapshot of the market’s expectations for volatility in the next 30 days.
  9. 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.
  10. Investing

    Why Investors Should Stop Watching the Indexes

    Using the Dow Jones or S&P 500 Index as benchmarks for your diversified portfolio causes problems.
Hot Definitions
  1. Quick Ratio

    The quick ratio measures a company’s ability to meet its short-term obligations with its most liquid assets.
  2. Leverage

    Leverage results from using borrowed capital as a source of funding when investing to expand the firm's asset base and generate ...
  3. Financial Risk

    Financial risk is the possibility that shareholders will lose money when investing in a company if its cash flow fails to ...
  4. Enterprise Value (EV)

    Enterprise Value (EV) is a measure of a company's total value, often used as a more comprehensive alternative to equity market ...
  5. Relative Strength Index - RSI

    Relative Strength Indicator (RSI) is a technical momentum indicator that compares the magnitude of recent gains to recent ...
  6. Dividend

    A dividend is a distribution of a portion of a company's earnings, decided by the board of directors, to a class of its shareholders.
Trading Center