Let's look at another set of criteria to see if we are close to a market bottom:
Put/Call ratios are popular indicators that measure mass psychology amongst market participants. The ratio is the trading volume of put options divided by the trading volume of call options. In very simple terms, a put option is market insurance against declining prices, and a call option is market insurance against rising prices. So, when the ratio is relatively high, this means that the majority of investors expect the market to decline (bearish). When the ratio is relatively low, we can conclude that the majority of investors are confident that the market should rise (bullish). Most of the time, the market proves the majority wrong, and therefore, put/call ratios are contrarion indicators.
Let us start with the latest S&P bottom indicator, the Put-Call Ratio (CBOE Options Total Put/Call Ratio.) I am using only the equity put/call ratio and exluding index put/call ratios. A "Put" is an option where the buyer is expecting the stock to go down. A "Call" is an option where the buyer is expecting the stock to go up. So the Put-Call Ratio is the ratio of the total volume of Put Options to the total volume of Call Options. If the Put/Call Ratio is above 1 (for example), this means that there is fear in the market and people want protect their portfolios with Put Options. This is used as a contrarian indicator, meaning when the Put/Call ratio is high, we may have a bottom.
However, since the ratio is very volatile, we want to smooth out the ups and downs. So we use the 10 day moving average of the ratio. It is the blue line. The general rule is that if the 10 day moving average of the ratio stays above 1.0, we are near or at a bottom. We are not there quite yet.
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