Here’s what the equity options put call ratio is telling us, and what it isn’t

I’m hearing a lot of talk about the CBOE Equity Put/Call Ratio tapping an extreme low again. At 0.38, the ratio between equity puts and calls has once again reached its lowest level of the past year.

For a broader perspective, here is the CBOE Equity Put/Call Ratio going back to 2006. Indeed, the current ratio between equity puts and calls is as low as it gets. The lowest level was in 2010, when it reached 0.32, barely lower than the current 0.38 reading. Yes, indeed, the CBOE Equity Put/Call Ratio reaching an extremely low level. In fact, it’s as low as it has ever been going back to 2006.

Normally, we consider such a low level to be an example of extreme complacency and GREED DRIVING THE MARKET. For example, the CBOE Equity Put/Call Ratio is the first of seven indicators used in the Fear & Greed Index.

When the ratio is trending down and at a low level, it’s because equity Call option volume is greater than the equity Put option volume. When there’s more trading volume in equity calls, we assume options traders buying speculative calls, so they are bullish. VERY bullish now.

When the market is so one-sidedly bullish, it’s a contrarian indicator suggesting over-enthusiasm. That is, we assume the calls are mostly speculative positions and puts are defensive, so the demand is on the long side. It’s an imperfect assumption, but I generally agree.

I pointed out a similar extreme read out early June, when Call Volume spiked up to a historically high level. Indeed, the stock market had a -6% down day afterward. This time is a little different, and the chart shows why. Call volume isn’t nearly as high, relatively speaking.

Call volume isn’t as high as it was in June, but put volume is also lower. So, the ratio is at the same low level at 0.38, but the absolute volume is different. It’s still probably an indication of enthusiasm and complacency, but it may not have the delta it had last time.

Keep in mind, even though a call option gives the buyer the right, but not the obligation, to buy a stock at a specified price within a specific time period, call volume also includes sellers of call options. So, the dominant demand could be the selling of call options instead of buying them, but every seller needs a buyer, and the prevailing direction of the trend hints as to the dominant side the market is enthusiastic about.

We can say the same about put option volume. While a put option gives the buyer the right, but not the obligation, to sell a stock at a specified price within a specific time period, put volume also includes sellers of call options. Buying a put option is bearish, but selling a put option is bullish.

Still, the general direction of put/call volume is that equity call volume is assumed to be mostly speculative bets on the stock to rise and put volume is primarily speculative (or hedging) bets on the stock to fall.

So, an observation of put and call volume includes a combination of the options market belief the stocks will trend up, but also less desire to protect against stocks going down.

This time, as seen in the chart, the primary difference in the current Put/Call Ratio is a lower level of put volume, requiring less of an uptrend in call volume to drive the ratio up.

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I hope this helps!

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Mike Shell is the Founder and Chief Investment Officer of Shell Capital Management, LLC, and the portfolio manager of ASYMMETRY® Global TacticalMike Shell and Shell Capital Management, LLC is a registered investment advisor focused on asymmetric risk-reward and absolute return strategies and provides investment advice and portfolio management only to clients with a signed and executed investment management agreement. The observations shared on this website are for general information only and should not be construed as advice to buy or sell any security. Securities reflected are not intended to represent any client holdings or any recommendations made by the firm. Any opinions expressed may change as subsequent conditions change.  Do not make any investment decisions based on such information as it is subject to change. Investing involves risk, including the potential loss of principal an investor must be willing to bear. Past performance is no guarantee of future results. All information and data are deemed reliable but is not guaranteed and should be independently verified. The presence of this website on the Internet shall in no direct or indirect way raise an implication that Shell Capital Management, LLC is offering to sell or soliciting to sell advisory services to residents of any state in which the firm is not registered as an investment advisor. The views and opinions expressed in ASYMMETRY® Observations are those of the authors and do not necessarily reflect a position of  Shell Capital Management, LLC. The use of this website is subject to its terms and conditions.