[TOP STORY] The relevance of the Fear and Greed Index

South African Fear & Greed Index trading at very dangerous levels. Be fearful when others are greedy!#FearAndGreedSA pic.twitter.com/qpQIanXWtg

— Schalk Louw | Mr Louwcal

Schalk, before we get into the mechanics of what it’s telling us, this is something which CNBC used to do for US markets. This is now for the SA markets. What’s going into it? What is it capturing?

SCHALK LOUW: Good morning, Simon, and good morning to all the MoneywebNow listeners. Yes, it’s a wonderful tool, this. Before I explain to you how this works – because a lot of people will suddenly think this – ‘I’m not a trader’. This is something that I’ve built and followed on CNN, and funnily enough it’s still available for all the listeners out there. They can go and Google ‘CNN Fear and Greed’. A wonderful, wonderful tool. It explains exactly what the words say – it’s fear and greed.

In the CNN one there are let’s call them seven indicators. In South Africa we’ve only got five of those seven indicators, and it’s basically five pillars. They look at the market momentum, they look at market price strength, the [market] price breadth, the market volatility and the safe-haven demand. It’s actually very simplistic but, man oh man, I’ve been running this index for let’s call it three years and it’s just crazy.

When you get to an environment where there’s extreme fear, Warren Buffet used to say, ‘Be fearful when everybody’s greedy and greedy when everyone is fearful’.

It seems like the greed index or the Fear and Greed Indexes strike again.

SIMON BROWN: It absolutely is so. And at the moment it’s highly elevated. But if we go back in time, it was right down at the bottom in early October. Of course in hindsight that was the perfect opportunity. The JSE has had a brilliant run since early October, and it had a spectacular January. It is working. Although I take your point a moment ago where you were saying you’re not a trader. This is not saying to you go and sell everything. It’s kind of saying to you maybe be careful, maybe you’ve got some money to deploy – come back in a couple of days, or a week, or something.

SCHALK LOUW: But the inverse is also true. I spoke to clients back at the end of September where we had a lot of these clients who were extremely fearful. They were really down in the dumps. We know that was the period where we were sort of in the bottom of the crash, and this just put you in a position to say, ‘well, just wait, wait. This is not a long-term tool. This is a short- term tool. Just know that this is pretty much as bad as it gets.’ Again, the indicators inside that tool are just so wonderful. It’s stuff you pretty much build yourself. We’re talking about the market momentum.

I pretty much use the JSE movement and its 125-day moving average. For the listeners out there, I’m not going to go too deeply into the technology, but when the share price or the index price trades above the moving average, that tends to be a little bit more not bullish, but where people tend to be a little greedier. When it drops below the moving average or is trading below it, the further down it trades below this moving average, the more fearful people are.

Then you get things like the stock price strength – the 52-week highs and lows. They are just comparing the 52-week highs and lows of each individual stock.

Remember, there are many, many stocks on the stock market and sometimes you get these big [stocks] – we’ve seen it in South Africa, we’ve got Naspers, we’ve got Prosus and we’ve got Richemont – when they tend to go up they tend to lead the market. You sometimes miss the environment that, maybe there are more stocks that are currently treading at 52-week lows, despite the fact that the index is high. Then the price breadth is just the McClellan [Oscillator] (a market breadth indicator)…, market volatility. The best-known volatility index in the world is the Vix (Chicago Board Options Exchange’s CBOE Volatility Index). That’s the Chicago one, the US one.

We’ve also got a similar one. We’ve got the SAVI, the South African Volatility Index. It’s very similar again. I put a 50-day moving average, and when that volatility comes down, historically when volatility is low, then people tend to be a little greedier, a lot more bullish when the volatility is low. When volatility starts spiking, that’s where people get fearful. And that just measures that.

The final one is your safe-haven demand. That’s it, Simon. This is probably my favourite part of this model. It is where you compare the 20-day returns between the JSE and, for all for listeners out there, the All Bond Index South Africa.

Remember, bonds tend to be less risky investments compared to equities. So when people migrate, when you see the returns on bonds exceed the returns of equities, you know that people are suddenly flying towards safety.

They are a little more fearful. Just compare the two.

That’s it, as easy as you get. You build an index zero to 100, 100 [being] extremely greedy, and zero – we’ve seen that in Covid.

SIMON BROWN: Well we don’t build it. We just follow you on Twitter, the lazy way. But I like the point that you made there. It almost sort of talks us off the ledge. I’m remembering in late September it had been a long year, markets were grinding, we were low, and something like this flashes across my screen. It’s like, okay, this kind of makes sense. It also reminds me that, you know what, we’ve seen this before, and markets recover. It’s that talking you down from the depression of markets, which happens sometimes. The inverse [comes] when we are sitting here in early February and we feel like geniuses because we have exceeded last year’s return and we’re only a month [into the year].

SCHALK LOUW: Yes. Just go and cash it in now. Go and put your money on the money market and then go and lie in the Bahamas. What else do we need to do? We have already made the returns. We still need some catch-up, man – not just the JSE but global markets.

But you’re a hundred percent right. It just brings some sanity when people in, let’s call it, the third week of January suddenly sit with returns of 7%, 8%, 9% on any equity market. You know that term ‘fomo’; everybody gets that fomo, that ‘fear of missing out’. This is where an index like this is wonderful. It’s saying, wait, wait. Be careful. Don’t be too worried about missing out. We are not trading at elevated levels; just [keep] some sanity.

SIMON BROWN: I’m looking at the other chart you put out – a five-year analysis for the [JSE] All Share –  9.8%. In January 8.9%. To your point, we’ve almost done the year in a month. But I can also remember 2006, where I think our [JSE] Top 40 did 40%. Markets can do crazy things. So as much as I love your idea of cashing in, going to sit on the beach, this could be a 40% year. It could be anything. We just sit here and let the market whipsaw us around for the next 11 months.

Use Moneyweb’s Comparison Tool to compare shares, indices, unit trusts and more over several periods.

SCHALK LOUW: Oh, I can’t agree more, Simon. You’re talking about 2006 – it actually started in 2004. People tend not to remember that 2003 was actually a crash year. From April 2002 to April 2003 we saw a decline in the market, a further decline of over 30% on the JSE. But from there we had the comeback in the market. Like you mentioned, from April 2003 to September the market kicked back 15%. Everybody was thinking, okay, that’s it, I’m cashing in. I think the market did another 15% to December, and then in the following year 30%. In the following year it was 70%-odd, just by the way.

So I totally agree with your point of view. It’s all about that thing.

I don’t want to use a cliché, but it’s ‘time in the market’, not really just ‘timing the market’.

SIMON BROWN: That 2004 to 2006 rally was brilliant. I was too naïve to do anything, so I just left everything in and I made a fortune, because I had no skill whatsoever. That comes to your point – often the best returns are when you turn off the screens. We’ll leave that there. That’s Schalk Louw. Of course you’ll find him at PSG Old Oak and you’ll find him on Twitter. Schalk Louw, I appreciate the time.