Understanding Put / Call Contrarian Sentiment
To make a sound option investment decision, you need to have a good idea of what the market is doing. This means knowing what the historical data and fundamentals indicate as well as gauging the emotions or sentiment of market participants. One sentiment-gauging technique is known as put/call ratios. A put is a bet on a decline, and a call is a bet on an advance.
At Schaeffer's Investment Research, we found that one of the most effective ways to follow put/call ratios is to monitor equity options on the CBOE (Chicago Board Options Exchange). We've found that when there is an excessive amount of bullish bets (call buying) made on equities, the buying strength has probably depleted.
The opposite is true when there is a large number of bearish bets (put buying). This generally means the selling strength has faded. Therefore, when there is an exorbitantly large number of puts compared to calls (a high put/call ratio), there are many investors who have made leveraged bets that stocks are going to decline. At that point, these investors have already sold a great deal of their stock positions, which means there is a lack of selling strength. In such a scenario, even slightly more buying strength will overwhelm the remaining sellers and push the market back up. This is why the overall market tends to rally following high equity put/call ratios.
How high would a put/call ratio have to be to predict a major move up in stocks? There is no exact answer due to all the variables in the stock market. In general, we have found that if the ratio of equity puts to equity calls is greater than 0.55 on any given day, history has shown that the market should go up. Every day, the CBOE announces several totals for option volume, including the total volume for equity puts and calls (you'll have to do the math yourself). To obtain this information, contact the CBOE at 1-800-OPTIONS or visit their website at www.CBOE.com. You can also look at this data by using a 10-unit moving average. Simply add up the last 10 days' readings and divide by 10. When this number goes above 0.47, the indicator suggests that the market is set to rally. Should the 10-day average exceed 0.50, analysis implies the market is set for a major move.
The above from Bernie Schaeffer's Site optionsource.com
The data below from CBOE site cboe.com
Date put/call ratio
4/24 .67
4/23 .75
4/22 .55
4/21 .51
4/20 .48
4/17 .55
4/16 .66
4/15 .60
4/14 .64
4/13 .80
10da .62 |
