Sentiment Indicators: Using IG Client Sentiment

What is IG Client Sentiment (IGCS)？

IG Client Sentiment (IGCS) is a tool that traders can use in conjunction with a broader technical and/or fundamental strategy. IGCS incorporates retail trader positioning (long and short) to formulate a sentiment bias. This is represented in percentage form (see image below) which aids traders in identifying market imbalances that could lead to possible opportunities.

IGCS in EUR/USD:

Sentiment Indicators

Sentiment indicators are few and far between. The two most well-known are open interest in options, which largely applies to stocks and the Commitment of Traders Report (CoT). What sets IGCS apart is the large sample size of retail traders which deliver more usable data in terms of indicator readings, multiple market data sets (FX, equities commodities), and timely updates for these markets which are refreshed several times daily.

IGCS as a Leading Indicator

The use of IGCS as a technical indicator can allow traders to confirm or refute signals produced by their wider trading strategy. Both fundamental and other technical techniques are used to gauge trends, ranges, potential reversals, etc. So incorporating IGCS provides another layer of data to help verify a hypothesis.

IGCS can be considered as a leading indicator as it uses past and current data to project possible future price movements however, as IGCS (retail) covers only one component of the market equation, traders should not rely solely on the IGCS tool for trading decisions. Simply put, retail traders contribute only a certain percentage of market input, so naturally other factors will influence the respective market.

For example, the EUR/USD chart below shows the projectible nature that can occur with IGCS. The highlights on the chart exhibit an increase in net short positions from retail traders which coincided with a rise in price action (EUR appreciation) on the price chart itself.

IGCS EUR/USD:

Using IG Client Sentiment for a More Well-Rounded Approach

There are many ways to measure trader sentiment in the FX market, but IG Client Sentiment (IGCS) stands out for several reasons which can be advantageous for short-term traders.

There are many ways that traders can measure sentiment in the FX market, and of course, there isnt a one-size-fits-all method for analyzing it. Depending on your objectives, one may be more well-suited for you than another.

COT Report

The Commitment of Traders (COT) report contains positioning data on futures traders of varying sizes and intentions. It is released every Friday evening and reflects positioning held for the week ending on Tuesday.

Right away you might see one of the big limitations of using this type of information – its not timely, at least not for short-term traders. Having a once-per-week update that also has a lag from the last day the data is reported (Tuesday) to when the data is released to the public (Friday), makes it an intermediate to long-term sentiment gauge.

Options

The options market is another place a trader can look to measure sentiment data via ‘Risk Reversals’ and put-call ratios. Options activity can provide insight into market participants‘ intentions through the differences between call buying (bullish bets) and put buying (bearish bets). While options can certainly be useful there is a deeper understanding of derivatives needed and access to the data isn’t readily available to market participants without paying hefty monthly fees for institutional platforms such as Bloomberg.

IG Client Sentiment (IGCS)

The IG Client Sentiment tool uses real-time retail trading data provided exclusively by IG, one of the world‘s largest FX brokers. It is calculated by counting how many traders are long versus how many are short, creating a ratio or percentage representing the aggregate level of bullishness or bearishness in a currency pair. For example, if there are 600 traders long EURUSD and 400 traders short, then 60% of traders are bullish. It’s as easy as that.

There are a few factors that really make IGCS stand out as a sentiment indicator. First off, the data is in real-time, which means traders can make more timely decisions. This is not something that can be said about futures and options data. Furthermore, IGCS is easily viewable and free on the IG Client Sentiment page.

IGCS is an effective contrarian indicator. There is a natural and very consistent tendency for retail traders to fade momentum. This behavior becomes especially pronounced during strong trends. When IGCS shows traders are more bullish than bearish it is considered a signal that prices may continue to decline, and when there are more bearish traders than bullish it can indicate an upward trend may be sustainable.

USDCAD Client Positioning (Traders short in upward trend)

Like every tool, though, its not without its short-comings. Because of the tendency for retail traders to fade price swings, when the price action in a currency pair becomes choppy there can be false signals as the price quickly reverses direction after only short periods of time.

The effectiveness of the IG Client Sentiment indicator can also be seen in the profitability numbers of retail traders. When markets arent trending, the fading of short-term price momentum is a good strategy as prices revert to the mean, but when a strong trend develops those trades which once worked in range-bound environment turn into out-sized losses in an absence of price reverting to the mean.

Over time traders are right more often than they are wrong, however; on average the amount of money made on winning trades is smaller (from fading prices correctly) than the amount of money lost on losing trades (getting caught on the wrong side of trend). This leads to an unfavorable risk/reward ratio and poor overall results. For more on this common mistake, you can check out our extensive guide, ‘Traits of a Successful Trader’.

Momentum shifts show important information. Watching how quickly the data shifts is another powerful way to gain valuable information from IGCS. The change in the direction of a trend often starts with a change in price action and a sharp shift in market positioning. These sudden shifts in momentum are caught in real-time by IG Client Sentiment data and can help put traders on the right side of the trade early in a price move.

AUDJPY Client Positioning (Strong shift in momentum compared to price)

To conclude, IGCS is not a stand-alone indicator but can be a powerful addition to a trader‘s toolbox. It’s prudent to combine disciplines as no one on its own provides enough of an edge to make a trading decision. For example, a technical trader might identify an important support level on a pullback in a currency pair that is not only trending higher but also has a bullish sentiment signal (the crowd is short). The independent factors (support in uptrend & sentiment) have merit on their own, but together they can combine for a more rounded approach that provides a stronger trading edge. Having a sound trading edge is key to building confidence as a trader.