When plotted below the daily chart of the S&P500 index, the daily CNN Fear & Greed Index (FGI) is not very useful in highlighting trading signals, as noise makes the FGI trend on a daily scale a bit erratic.
In this article, I described how the daily CNN’s Fear & Greed Index can be calculated in four different timeframes – daily, weekly, monthly and quarterly, and plotted under the S&P500 index in Tradestation. As described, a longer time frame such as the weekly helps highlight market tops. (click to enlarge)
The Composite FGI (FGIC), is obtained by assembling the four FGI timeframes into a single indicator. I plot FGIC below the daily S&P 500 index, on a scale that ranges from –12 (extreme fear) to +12 (extreme greed). Those levels are reached when all four timeframes are at their extremes, but such levels are extremely rare. For example, in the nearly five years of historical data, the +12 greed extreme had been reached only once – in January 2020, days before the pandemic driven downward reversal. The negative -12 fear extreme had also been reached only once, at the end of the late 2018 bear market.
In this article, we will focus on the +8 and –8 levels. They are marked on the chart and calculated as follows:
• 8/-8 All timeframes in greed/fear zone
• 9/-9 One out of 4 timeframes in extreme greed/fear zone
• 10/-10 Two out of 4 timeframes in extreme greed/fear zone
• 11/-11 Three out of 4 timeframes in extreme greed/fear zone
• 12/-12 All timeframes in extreme greed/fear zone
The bars on the chart are colored red when FGIC is –8 or lower and green when FGIC is +8 or higher.
Conclusions:
1. In the last five years, a prolonged bull market has always been preceded by an FGIC value below or equal to –8. Corrections not severe enough to cause panic in the markets (FGIC less than -8, see panic retest callouts) had to retest their lows. Markets have to panic before recovering.
2. The shapes of market bottoms and tops are driven by emotions: bottoms are fast and short-lived, tops are prolonged and rounded. Therefore, when FGIC exceeds +8 (all timeframes in greed to extreme greed zone) it doesn’t mean that a correction is imminent (see points A to D). Greed can last for weeks. However, a correction or a bear market are almost always preceded by an FGIC in greed readings (points 1-5).
FGIC, as an indicator of market internals, doesn’t provide entry or exit points – but offers valid messages how aggressive or conservative we should be at the right edge of the chart. When FGIC is in its extreme greed zone, we have to be extra alert to the quality of setups we are going to trade. When markets are in extreme fear, it’s a good time to create our buy list.
(This article has been posted on SpikeTrade. Follow FGIC updates on www.spiketrade.com)
