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How To Make A Full-Time Income Trading Less Than Part Time

Big Dogs Exposed

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Newsletter: Put/Call Ratio

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Put/Call Ratio: This is the total volume of equity-only put options divided by call options – exclusive of index options. Like most tools, there is a lag time with the put/call ratio.

The put/call ratio is generally regarded as a contrarian tool, on the basis of the public buying an inordinate number of calls or puts at exactly the wrong time.

A put/call ratio is a market sentiment indicator that denotes the volume of puts traded divided by the volume of calls traded for that day.

You can use put/call ratios to give you an idea of imminent moves in a stock, index, or futures contract that has options traded on it.

The CBOE has a daily total put/call ratio for equities that is very helpful for getting an idea of the overall bullishness or bearishness of the market. The reason it can be used as a market indicator is that this put/call ratio actually calculates the total number of puts and calls traded on all of the combined equities on its own exchange. Since the CBOE is one of the largest of the five options exchanges, the number is a great barometer of market sentiment.

This is a sentiment measure that tells us how many calls were traded in relation to puts on any given day. The results should really be viewed as a contrarian indicator. In other words, if there is an inordinate number of puts traded relative to calls, i.e., the ratio rises above 1.00, that reflects a bearish bias amongst traders, which one could just as easily say is positive towards the market – in the contrarian sense. More fodder for the bulls.

In the options market, traders turn predominantly bullish as the volume of non-expiration call contract activity escalates – which is really a negative in the contrarian sense.

A ratio of put to call buying on the Chicago Board Options Exchange [CBOE] of 1.00 indicates an almost equal amount of put and call buying on the first and largest US options exchange. A reading of 1.00 is relatively high – i.e., a sign of growing put buying and pessimism among options traders, reflecting market angst – but giving more ammunition to the bulls.

This ratio turns bearish when it falls below .50; bullish above 1.00. Readings of .60 or less are extremely rare.

The numbers can be distorted somewhat by option expiration.

Comment: I exclude index options from the put/call calculation, as they historically have a skew toward more put buying – due to the index put option hedging done by portfolio managers.

The reason I exclude index options is to focus on equity options only, the purview of the speculative crowd – the “dumb money” – who are usually on the wrong side of the ledger. The old saying, “Don’t follow the crowd.” Most speculators are not successful. They invariably lose money on balance. They’re not right very often, regardless of whether, as a group, they are bullish or bearish.

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