Fear And Greed Index Has Record Time At Extreme Fear – What This Means?

One of the famous quotes on Wall Street is that “two strong emotions drive financial markets- greed and fear”. Whenever there is a spread of extremely contagious diseases, such as with Covid-19 in 2020, fear and greed will be witnessed in the entire investment community.

This means that the behavior of investors is often, if not always, driven by fear and greed. The two emotions are key influencers for the high volatilities witnessed in bull markets, and the massive market crashes normally witnessed in bear markets.

Fear and Greed and the Crypto Market

Investors in the crypto space have also been reported to be buying an increasing amount of put options, which are contracts that position them to be able to sell their crypto tokens among other assets in their possession at a certain set price. Crypto derivatives boom during periods of uncertainty because of rapid price movements.

Because of this outcome, there is a steady increase in the values of cryptocurrencies during these seasons. The crypto trading volumes during such periods are also high, leading to improved market performance. Whilst fear and greed can cause a price rise; the two factors can also negatively affect prices.

For example, when China started a crackdown on crypto mining, it raised the fear index, triggering selloffs and affecting prices. The crackdown was among the main factors behind the May market crash, where Bitcoin lost nearly half of its value.

The Effect of Greed and Fear on the Prices of Digital Assets

Both fear and greed have wide-ranging effects on the crypto market and the price of digital assets.

Greed

Warren Buffet once explained to Jeff Bezos that the main reason why most people can never emulate his investment thesis is that most people want to get rich fast. This is the essence of greed in investment behavior. Investors are more drawn to making a quick profit, which is why short-term traders jump in when the market is at its peak.

With prices on a steady rise, it increasingly attracts more investors to invest their money in the assets. In this case, the demand and supply law applies, such that when there is more money being plunged in, the prices will keep rising, and the profits will keep increasing.

When the profits are exceptionally high, greed among investors becomes fueled, which inspires them to invest even more money, causing excessive increases in price.

When the prices are at a record high, prices of digital assets lead to a bubble, which eventually bursts during a correction. This market correction sees many investors who had previously invested extensive loads of money facing significant losses.

Fear

A slow economy is one of the causative agents for falling markets. Reports have indicated that prices in cryptocurrencies drop faster compared to how they rise. Fear is one of the key reasons that explain extreme price crashes witnessed in falling markets.

A sharp price drop for any digital asset makes its investors afraid about the probability of a continued drop in prices. This panic is what makes them swift to sell their assets.

There is a high supply of assets within a falling market because of the rush to sell and escape the potential losses. Selling out of panic will always cause a sharp fall in prices, which eventually sets the prices at such low indexes that the valuations of these assets become very cheap, an action that ultimately bottoms out the market.

Massive selloffs in the crypto sector are usually witnessed when prices start dipping after weeks of bullish sentiment. These frenzy-trading activities overload exchange platforms, which can freeze, such as what happened in Binance in May during a flooded panic sale.

Is Fear Healthy?

Fear has very little if any positive effects. While it leads to massive price crashes, it can create an ideal entry position for new traders because prices will have hit a bottom low. Some short-term traders wait for cryptocurrency prices to hit record lows to leverage these prices and accumulate more gains in case prices rise.

On the other hand, fear can also have an advantage, as it could save an investor from more losses if the prices of an asset fail to recover. While you will suffer some losses, you can reduce the extent of this loss during a panic sale.

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