Put-call ratio

Put-call ratio

The ratio of the volume of put options traded to the volume of call options traded, which is used as an indicator of investor sentiment (bullish or bearish).

Put-Call Ratio

The ratio of the trading volume of puts to the trading volume of calls in a given market. Investors sell puts when they believe that prices on the underlying assets will fall by the expiration date. Analysts thus use the put-call ratio to determine market sentiment, with a high ratio indicating a bearish sentiment and a low ratio indicating a bullish sentiment.

put-call ratio

A ratio that compares the trading volume in put options with the trading volume in call options. Technicians use the put-call ratio to forecast market turns. A high ratio with heavy trading in puts indicates strong bearish sentiment and the possibility of a market bottom. A relatively low put-call ratio with heavy trading volume in calls indicates very bullish sentiment and a probable market top. As with many other technical indicators, use of the put-call ratio assumes that most investors are wrong.
Case Study Like most technical indicators, the put-call ratio can prove very misleading when it is influenced by unusual factors. In February 1996, the ratio nearly reached five, meaning that put options were nearly five times as active as call options. This high ratio would usually be interpreted as reflecting very bearish investment sentiment, and it caused many investors to view the stock market with great caution. Contrarians, who believe the majority of investors are usually wrong, would consider the unusually high ratio to be very bullish. In fact, the ratio was artificially high and was providing false signals to both groups of investors. The heavy trading in put options was largely the result of the owners of puts selling existing holdings of these contracts and simultaneously purchasing different put contracts. For example, a holder of March put options would sell those contracts and replace them with April put options. Rolling the options forward caused a great deal of activity in put options even though a large portion of this activity represented the trade of existing holdings of puts for different puts.

Put-call ratio.

Since investors buy put options when they expect the market to fall, and call options when they expect the market to rise, the relationship of puts to calls, called the put-call ratio, gives analysts a way to measure the relative optimism or pessimism of the marketplace.

The customary interpretation is that when puts predominate, and the mood is bearish, stock prices are headed for a tumble.

The reverse is assumed to be true when calls are more numerous. The contrarian investor, however, holds just the opposite view. For example, a contrarian believes that by the time investors are concentrating on puts, the worst is already over, and the market is poised to rebound.

References in periodicals archive ?
The put-call ratio in Apple on Monday was two to one in favor of puts.
We incorporate both the Put-Call Ratio (PCR), introduced by Dennis and Mayhew (2002), along with the VIX-Investor Fear Gauge (VIX), introduced by Whaley (2000).
The Ned Davis Crowd Sentiment Poll, which includes transactional data like the put-call ratio, showed that investor mood was very optimistic.
As for the directional put-call ratio, the rabid buying of protective puts was snuffed out as the investors' fears calmed with time producing no major reversals from the Dow 30 and other indexes.
Chance [1990] examined the relationship between the S&P 100 Index (OEX) put-call ratio and the return on the index itself as well as between the put-call ratio for all CBOE options and the S&P 500.
If a high level of correlation is found between put and call activity, the calculation of a put-call ratio may remove a considerable amount of the variation.
The tests were first performed on the stock price-option volume relationships (call volume, put volume, and the put-call ratio) by running regressions up to a lag of 13, which corresponds to one half-day of trading.
A further line of inquiry is founded in trading rules based on put-call ratios. Market participants using these rules believe that information on option trading volumes can be used to predict stock price changes.
Table 2 shows evidence of feedback occurring between the stock price level and option volume measures in five out of nine cases, in two cases causal relationships were observed but they differed in the direction of causality, and in two cases (OEX and SPX), put-call ratios were found to have no relationship to stock prices.
The put-call ratio has jumped back up to 2.27 as protection grows more expensive than additional returns in purchased calls.