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Market Sentiment Analysis

Updated: Feb 21, 2022

Analyzing market sentiment and knowing whether the trading activity is bullish or bearish on any trading day is challenging for traders and investors.

Unfortunately, many people go with the views of the majority, thinking it will be the right market sentiment. But most people lose money in the stock market, so how can their views be right on the market?

It is always a good idea to track the activities of FIIs, fund managers, investors, and big traders. But the problem is that their actions are not visible, and tricky to decide with the available data.

Hence I came up with my version of ‘market sentiment’ that measures the activities of all these big players from 3 different dimensions. All I need a simple price chart to perform the analysis.

How to calculate Market Sentiment?

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What Is Market Sentiment?

As per Investopedia definition, Market sentiment refers to the overall attitude of investors toward a particular security or financial market. It is the feeling or tone of a market, or its crowd psychology, as revealed through the activity and price movement of the securities traded in that market.

In simple words, market sentiment refers to the overall feeling of the people towards the market. Therefore, understanding the market sentiment allows you to judge whether a market feels optimistic or pessimistic about the future of prices of a stock or index.

It will be positive (bullish) when the market is in an uptrend and negative (bearish) when the market trend is down.

How to Measure Market Sentiment?

All the markets are fueled by emotion, which is one of the main reasons traders can find opportunities to trade. Therefore, successfully identifying and evaluating market sentiment before taking a trade will help traders step back objectively and avoid unnecessary trades. Besides, it also helps in planning a trade in the live market.

Sometimes market sentiment is also recognized as ‘investor sentiment.’ Intraday traders and swing traders rely on price action or technical indicators. In contrast, many investors depend on fundamental factors to arrive at the market sentiment.

The India VIX, The High-Low Index, Gainers/Losers info are valuable indicators to arrive at the market sentiment.

However, I have used a simple price chart and market profile chart (not mandatory) to calculate the market sentiment.

Market Sentiment Analysis

Gauging the market sentiment is the trickiest part of trading, as the market's outlook is shaped by anything and everything.

I will use three essential aspects of the market profile to calculate the market sentiment.

I will explain these three concepts in terms of market profile using a free market profile chart source and describe how to apply the same using a simple candlestick chart.

The three critical aspects which are required to calculate market sentiment are:

  1. Value Area Shift

  2. Range Extension

  3. Extremes

Do you know why I am taking only these three features of the market profile and ignoring the rest?

The answer is pretty simple. These three features measure the smart money/big players' activity from three different dimensions.

‘Value Area shift’ indicates the overall effect of smart money.

‘Range Extension’ indicates the effect of smart money after IB range formation (after 1-hour of the market open).

‘Extreme’ indicates big players’ urgency to grab any good opportunities.

We should do this assessment only after the completion of the trading hours.

Value Area Shift

Image 1 – Value Area in Nifty
Image 1 – Value Area in Nifty

On any trading day, the value area is nothing but a price range where 70% of the day’s business (or 2/3rd of the entire day’s activity) is conducted.

(PS – There is no need to calculate this info. Gocharting provides FREE EOD market profile charts)

In this case, we will compare today’s value area with the previous day's value area.

Image 2 – Value Area Shift (positive)
Image 2 – Value Area Shift (positive)

If today’s value area is moved upside, as compared to the previous day's value area, then we can mark it as ‘positive’ (Image 2).

Image 3 – Value Area Shift (negative)
Image 3 – Value Area Shift (negative)

Else if today’s value area is moved downside, as compared to the previous day value area, then we can mark it as ‘negative’ (Image 3).

Image 4 – Value Area Shift (neutral)
Image 4 – Value Area Shift (neutral)

Otherwise, if today’s value area is the same as the previous day's value area, we mark it as ‘neutral’ (Image 4).

Alternative Technique Through Candlestick Chart

One can also do a similar assessment by looking at the candlestick chart.