Market psychology refers to the dominant behaviors and aggregate sentiment among market actors at a given point in time. The term is widely used in financial media and by analysts to frame why a given market cannot be explained through other metrics such as fundamentals. For instance, when the health of the economy loses confidence and investors start to pull back from buying stocks, the general market indexes decline. The price for individual stocks declines regardless of the companies whose stock happens to be issuing those stocks having, by all financial measures, performed well with them. Greed, fear, expectations, and euphoria all play their roles in markets’ general market psychology. These states of mind are very known to unleash periodic “risk-on” and risk-off,” or rather boom and bust cycles in financial markets. These emotions may further be intensified by the 24×7 news and information availability, CNN effect. After World War II and the Great Depression, he wrote that it was “animal spirits,” a “spontaneous urge to action rather than inaction.” It explains that all the players in the market are very rational and do not account for the emotional aspect of the market. This is the largest reason for chart patterns. Many impatient and emotional traders make imbalances in demand and supply happen, leading to price patterns. An experienced trader would quickly be on board for this and will capitalize on the emotional mistakes of their less-experienced counterparts. It is a bullish reversal pattern in the shape of the letter “W,” meaning it could be that the drop might bottom out, and then an upward surge takes place. To determine and interpret these patterns, one has to carefully watch the price movement, almost like building a sense in the mind related to market psychology. Economist Amos Tversky, together with Nobel prizewinning psychologist Daniel Kahneman were the first to ever question the traditional theory of market efficiency of the markets. No trading strategy ever involved accurate forecasting. Still, the theory that lies behind this traditional use of chart patterns in trading tells us that it is because of predictable ways market participants behave when responding to market news and events that the patterns form. That is, they did not endorse the idea that in financial markets humans will always make rational choices based on public and relevant information contained in prices. In conversation with systematic errors associated with human decision-making and cognitive biases such as loss aversion, recency bias, or anchoring, the work has been widely applied and in use in investment, trading, and portfolio management strategies. Through research, you can pinpoint the oversold or overbought conditions born of the market psychology of fear or greed. By research, you jump on trends early but do not chase trends late when they have gone beyond their fundamentals. The directional system was developed by J. Welles Wilder, Jr. in order to identify trends strong enough to be meaningful and useful indicators for traders. Directional lines are constructed to discern whether there are bulls or bears: When the positive line is higher than the negative one, bullish traders have more power (and so a bullish signal is formed). On the contrary, it signals bearishness. Increasing ADX means that profitable investments are getting stronger and losers are getting weaker. In addition, its trend is likely to prolong for a much more extended period. The longest-lasting trends are often those that occur when the emotion is at its lowest. The trend can be reasonably expected to continue until the emotion of the market changes when the volume is moderate and both shorts and longs do not undergo a roller coaster ride of emotion. In this kind of long-term trend, small price fluctuations up or down evoke little emotion, and even when small changes occur day after day (enough to produce a major trend going gradually), they usually do not trigger very extreme emotional reactions. In short selling, a rally in the market can help flush out those holding short positions and cover, thus forcing the market higher. The Essential Chart Patterns are the basic universally accepted price charts in technical analysis that traders and investors use to predict future movements in the market. Market sentiment can oftentimes be identifiable through a variety of leading indicators, with the VIX being the only one that expresses an implicit level of fear or greed in the marketplace. Furthermore, technical analysis techniques can be employed to search for the market’s sentiment using historical price action and volume. Market psychology is a study of herd behavior and/or sentiment by economic agents involved, such as businesses, traders or consumers. For research into the intensity of greed, fear or euphoria within the market, professional traders are capable of forecasting future price movements as well as changes in supply and demand. Since every technical indicator is derived from the premises of market psychology, your basic knowledge of some technical indicators would necessarily involve understanding crowd behavior. Market psychology is, indeed, difficult to predict, but there are several indicators on which traders and investors may rely and use in estimating directional changes based on shifting sentiment.
