Feelings are defined as a point of view or opinion that a person has regarding various things or situations.
in financial trading or investment, sentiment analysis when people use General attitude towards an asset To decide whether to buy or sell an asset. It is a common approach that people use to make decisions about an asset.
This article will look at what sentiment trading is, how it works, and how to put it to good use.
What is sentiment analysis?
always It is difficult to decide whether to buy or sell an asset. Therefore, traders use different strategies to predict the direction of the asset.
Two more approaches Basic And Technical Analysis. Fundamental analysis is a strategy in which people use the news – including Economic and financial data – to determine whether the price of an asset will increase or not
idiomatic analysis, on the other hand, Refers to the use of pointers And other chart patterns to predict direction help. The most common method for this type of analysis involves the use of technical indicators such as moving averages and the relative strength index (RSI).
Sentiment analysis comes in between technical and fundamental analysis Since all traders use it in some form. In most cases, traders use public sentiment from the market to make decisions.
When an asset is going up, it often has an upward slope and a bullish trade execution. Likewise, when the price of an asset goes down, their sentiment is often bearish.
Related “ What is the optimism/pessimism bias in trading?
Sentiment analysis vs technical vs fundamental analysis
As indicated, sentiment analysis differs from other types of analysis in the financial market. in depththis type of analysis It depends on your general feeling around an asset or the broader market. You may feel that the stock will continue to rise or fall.
Technical AnalysisOn the other side, He is relatively wider in nature Because it includes different approaches Likes:
- pointers
- Graph analysis
- Candlestick analysis
Fundamental analysis uses other things like news and economic data to determine the direction of an asset. Some of the top economic data traders use ar
- employment
- economic inflation
- manufacturing
- Industrial production
In fundamental analysis of stocks, traders look at important news such as earnings, mergers and acquisitions, and management changes.
How does sentiment analysis work?
Sentiment analysis in trading is a relatively simple approach. In most periods, it is comparable to following a trendwhere people seek to follow an existing trend.
A good example of this is in the chart below, as shown, the NASDAQ 100 was in an uptrend. Also, it just moved above the major resistance at $12,888.
Therefore, in this case, the emotional trader is more likely to place a bullish trade and follow the trend.
In some cases, traders are emotional with a conflicting view He can decide to take the opposite trade. In this, they can decide that the uptrend has become overextended and the asset will most likely start moving in the opposite direction.
Examples of sentiment indicators
There are many important sentiment indicators that people use in their day trading and investing. Here are the two most popular.
Fear and greed index
the Fear and greed index It is widely used in the financial market. It’s a tool It looks at the two most important drivers In the financial market: fear and greed.
The indicator generated by CNN looks at major indicators such as:
- market momentum
- Share price strength
- share price expansion
- Mode and connection options
- market fluctuations
- Safe haven request
- Junk bond application
Each of these sub-indexes can also be called sentiment indices.
Fear and greed index It moves between 0 and 100 where zero indicates extreme fear and 100 indicates extreme greed.
Traders interpret this metric differently. Momentum investors buy when the indicator moves into greed territory vice versa.
VIX index
The CBOE VIX is widely known as the measure of fear on Wall Street. It is an index created from Consider S&P 500 index options.
VIX It goes up when there is a lot of volatility And it goes down when there is no volatility. Some traders buy stocks when the VIX goes down while others buy them when it goes up.
Buffett index
This is an indicator created using the principles of Warren Buffett. The index looks at the total market capitalization of companies in the United States and is divided by the country’s gross domestic product.
Some analysts have modified this tool to include the total assets of the Federal Reserve. The idea is that if rate He is less than 79it means that the file The stock market is undervalued. You can use the table below.
These are the most important tools. If you want to know more, we have a full article on the best sentiment indicators.
Sentiment trading strategies
There are many trading strategies that people use when using emotional analysis. Some of these strategies include:
Trade the news
News trading is a position that people use today’s news Determines if you want to buy or sell an asset. For example, if The company posts solid earningsthe general sentiment will be bullish.
As such, you can take advantage of this to buy stocks. Likewise, if a company posts poor results, traders will often sell the stock.
Trend trading
The other approach to sentiment trading is Follow the trend. This is a strategy where people Wait for the current trend And Then follow him.
If the asset is going up, then the trader will make a bullish trade and vice versa. Trend followers believe that the current trend will continue in the current trend until something happens.
Contradictory trading
This is a risky approach as people move against the current trend. If the price of an asset is going up, these contrarians will tend to move in the opposite direction.
While this approach can work well, sometimes, it is It can be a high risk strategy To trade during a bull market.
summary
Sentiment trading is a popular trading strategy that everyone uses. It is a simple approach, especially when combined with other strategies such as technical and fundamental analysis.
While the strategy works well, it has many risks such as getting caught in the market noise and buying before a reversal.
Useful external sources
- Does sentiment analysis work as a trading strategy in the financial markets? – Quora