Market sentiment is the overall attitude held by investors toward a particular market, asset or financial instrument. While economic data and technical charts can provide structured inputs, it is the emotional interpretation of this quantitative data that often determines price movement.
This interpretation is captured through market sentiment analysis, a structured attempt to measure and understand how investors feel about the market at any given time.
What is Market Sentiment?
Market sentiment is an indication of whether investors feel optimistic (bullish) or pessimistic (bearish). Unlike fundamentals, which describe the economic value of an asset, sentiment analysis focuses on the mood of the market.
This approach is built upon the understanding that the buying and selling of assets is influenced by confidence, fear and speculation, not just the quantitative data.
The purpose of sentiment analysis is not to provide absolute predictions, but instead to offer insights into how collective psychology may impact price trends.
The Key Constructs
Sentiment may appear abstract, but it can be broken down into key constructs that guide how it is measured and interpreted.
Understanding these key constructs helps traders to make informed decisions.
Bullish vs Bearish
The foundation of market sentiment analysis is identifying whether markets lean towards optimism or caution. A bullish sentiment implies rising confidence and higher demand for an asset.
A bearish sentiment reflects caution and potential sell-offs. Knowing the dominant direction can help traders to anticipate potential momentum shifts.
Indicators and Measurement Techniques
There is no one definitive measure of market sentiment, instead there are many indicators that are considered to give the general direction.
Social media and online forum posts are analysed to provide a real-time reflection of investor confidence.
Earnings Reports and Company Statements often provide quantitative information, but beyond the numbers, the tone of the commentary is carefully scrutinized.
A cautiously worded outlook may trigger a bearish interpretation whereas a confident presentation may fuel optimism.
Behavioural Extremes
Market sentiment analysis often focuses on the extremes. Excessive optimism can be interpreted to suggest an overvalued market due for a correction.
Widespread pessimism can be interpreted to signal an undervaluation, especially if the fundamentals are appealing. Detecting these extremes is one of the most practical uses of sentiment analysis.
However, not every trader will react the same way when presented with identical information.
Role within a Trading Strategy
Sentiment analysis is not designed to wholly replace technical or fundamental analysis.
Instead, it is designed to complement these trading strategies by providing real-time information into the mindsets of other traders and investors.
Day traders often utilize sentiment analysis differently from longer-term investors. A trader may seek to confirm a chart pattern with a sentiment indicator.
If you want to learn how hedge fund managers utilize sentiment analysis, read this article.
The investor may use sentiment analysis to spot opportunistic differences between the fundamentals and sentiment data.
Why it Matters?
Markets are influenced by perception, not just economic reality. Understanding how sentiment analysis works and how to interpret the findings can help traders and investors to cut through the noise and to interpret perceptions systematically.
This can provide a balanced perception: fundamentals explain what should happen, technicals show what is happening and sentiment analysis can explain why it is happening.
Market sentiment analysis provides a structured framework to evaluate the psychology behind financial decisions.
The key constructs, namely the directional mood, indicators, behavioural extremes and integration into trading strategies offer a toolkit to help traders and investors alike to navigate the market.
While it cannot eliminate uncertainty nor predict exact price movements, it helps to explain the human element that underpins every trade.
Check out our market sentiment analysis service
If you are interested in utilizing market sentiment analysis data for trading and investing to help you better understand the crowd psychology of social media and textual data, check out our platform and API.
Our platform and API services are both suited to the stock market and cryptocurrency exchange, as seen by a sentiment graph of Bitcoin below.
For any questions or to help to get started as a regular user of StockGeist.ai, feel free to contact us.
NLP Team Lead at Neurotechnology | StockGeist Project Lead – Senior NLP & LLM Developer
Vytas is a figurehead at Neurotechnology – founder and NLP team lead of StockGeist.ai at the age of just 21. With over 7+ years of experience in LLM and NLP development, Vytas’ passion and knowledge for developing AI-powered solutions burns brighter than ever before. He has a vast amount of experience in the field of sentiment analysis for the stock and crypto market, helping traders and investors better understand textual data across social platforms through his innovative platform, StockGeist.ai.
