Social Media Sentiment vs Traditional Market Sentiment Measures

For decades, investors and traders have relied on traditional market sentiment measures, such as the VIX index, CNN's Fear & Greed Index, and the Commitment of Traders (COT) report, to gauge market sentiment and make informed decisions. These measures are based on market prices, their dynamics, and trading volumes, providing valuable insights into investor sentiment. However, with the rise of AI and NLP based social media sentiment platforms, social media has emerged as an alternative and valuable measure of market sentiment. In this article, we will explore the differences between traditional market sentiment measures and social media sentiment and discuss how the latter may offer distinct advantages to complement your investment analysis.

Popular Traditional Sentiment Measures

The leading traditional market sentiment measures all rely on existing market data in the form of price dynamics, trading volumes, or investors’ market moves in some way or another. Two popular stock market sentiment measures are the VIX Index and CNN’s Fear & Greed Index. In the area of commodity trading, the Commitment of Traders (COT) is frequently used to gauge market sentiment.

VIX Index

VIX is a measure of market volatility, or rather investor sentiment towards the expected volatility. It is calculated using the implied volatility of options on the S&P 500 index, representing investors' expectations for market fluctuations over the next 30 days. A high VIX value suggests higher expected volatility, indicating fear and uncertainty among investors. Conversely, a low VIX value reflects lower expected market volatility and, therefore, greater investor confidence.

CNN's Fear & Greed Index

CNN's Fear & Greed Index is a composite measure that combines various market indicators to provide a comprehensive view of market sentiment. The index includes the VIX, and six other market indicators - put-call ratio for options, market momentum, junk bond demand, market breadth, safe-haven demand, and stock price strength. By aggregating these indicators, the index attempts to capture both fear and greed sentiments in the market. A very high index value indicates extreme greed, while a very low value suggests extreme fear among investors.

Commitment of Traders (COT) Report

The COT report provides insights into the positions of different commodity market participants, such as commercial hedgers, speculators, and small traders, in various futures markets. It showcases the net long or short positions of these groups, helping traders understand the sentiment of major players in the market. A large net long position, for example, may signal bullish sentiment, while a significant net short position may indicate bearish sentiment.

Enhancing Sentiment Analysis with Social Media Measures
In recent years, advancements in AI-based social sentiment measurement tools have enabled the analysis of social media data to gauge market sentiment more effectively. Social media sentiment can be a valuable complement to traditional measures due to its real-time nature and its ability to capture the sentiment of a diverse set of market participants. Here are some ways in which social media sentiment may offer advantages over traditional market sentiment measures:

1. Real-Time Information

Social media platforms operate in real-time, allowing for instantaneous updates on market sentiment. Measures like CNN’s Fear & Greed Index and COT are published on a weekly basis, which may lag behind significant market developments. Social media sentiment, on the other hand, can provide immediate insights into how investors are reacting to breaking news, earnings reports, or geopolitical events.

2. Broad Coverage and Diverse Data Sources

Social media sentiment analysis can aggregate sentiment data from various platforms and financial forums. For instance, our social media analytics platform, PUMP, and our API Datasets cover Twitter, Reddit, LinkedIn, Seeking Alpha, Weibo, Facebook, YouTube, and Medium. Additionally, we source data from no less than 10 smaller regional finance-related forums and news sites. This broad coverage captures a wide range of opinions and sentiment. Unlike traditional measures, which focus on specific markets or categories of traders, social media sentiment provides a more comprehensive view of sentiment across different segments of investors.

3. Potential for Early Indicators

Social media sentiment can serve as an early indicator of emerging market trends or shifts in sentiment. Traders and investors can detect sentiment changes before they reflect in traditional indicators like the VIX or COT report, which may still be catching up to the latest developments. Early identification of sentiment shifts can offer a competitive edge in investment decision-making.

It can also help investors and public companies avoid social media driven panics that often have disastrous effects on the market or individual businesses. Last March, startup-friendly Silicon Valley Bank collapsed as a result of a Twitter driven bank run. Tracking social media sentiment towards the bank’s stock could have helped many investors (and the bank itself) avoid the worst of the losses.

4. Better Access to Retail Investors' Sentiment

Traditional measures often focus on the positions and sentiment of institutional investors and large market players. Social media sentiment can help gauge the sentiment of retail investors, whose collective actions can significantly affect markets, no matter how insignificant their individual market impact might be.

While traditional sentiment measures based on price trends, trading volumes, and market activity have long been essential tools for investors, the rise of social media sentiment presents a valuable addition to these traditional measures. Social media sentiment also has certain features that are hard for measures like VIX, Fear & Greed Index, or COT to replicate. In the competitive world of investing, staying ahead of the curve calls for more than reliance on old, traditional tools and measures. In 2023, any investor, be it a massive hedge fund or a retail player, needs social sentiment to stay ahead of that ever-rising curve.