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Today


IVolatility Trading Digest™ Blog


Volume 17 Issue 7
Put/Call Ratios as Timing Signals [Charts]

Put/Call Ratios as Timing Signals [Charts] - IVolatility Trading Digest™

Trade selection using volatility as the primary criteria. Different trades for different volatility opportunities.
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After a brief S&P 500 Index update this issue is devoted to exploring the usefulness of the NYSE put/call ratio and the VIX put/call ratio for market timing.

Review NotesS&P 500 Index (SPX) 2316.10 broke out once again, this time adding 18.68 points or +.81% for the week. With two new closing highs another new upward sloping trend line, USTL from the November 4 low becomes the new operative indicator to watch for any attempt to retest support first at 2300 then a whole lot at 2275 going all the way back to December 13 with it first traded above 2275.

We begin with last year’s VIX chart that includes the S&P 500 Index. Early in year, the VIX remained elevated until SPX found a bottom and but it didn’t give an early warning of the turnaround then, or for the two other sharp declines, one in June the other in November.

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For comparison, here is the NYSE Equity Only Put/Call ratio with the SPX for last year.

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Charts Courtesy StockCharts.com

The picture here is similar with spikes above .90 coincident with reversals at the arrows. This seems to confirm the results of a study prepared by John Bollenger some years ago that concluded buy signals are generated when the put/call ratio exceeds twice the ten day average. So, not much early warning help here either however, the chart above does suggest caution as the put/call ratio rises above .76

Using current IVolatility charts for the S&P 500 Index for volume, open interest and put/call ratios, that are usually well above 1.0 since it is a hedging favorite, show spikes above 2.00 often correlate with reversals.

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Charts source: IVolatility.com/Advanced Historical Data

CBOE Volatility Index®

Since hedgers are increasingly using VIX futures and option on futures perhaps, the put/call ratios here can be helpful.

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Charts source: IVolatility.com/Advanced Historical Data

Now it gets complicated since put volume increases when the VIX is high and expected to decline, but also when it is low with limited downside. When expectations are for a decline from a high level puts buying increases, when the downside seems limited put selling also increases.

Referring to the put/call chart above:

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Numbers 1, 3, and 5 are examples when put volume was high due to put selling, the current condition, while numbers 2 and 4 are examples when the put volume was high due to put buying in anticipation of VIX declining.

When put selling increases, option prices decline as illustrated by comparing the implied volatility indexes for the calls and puts.

Here is the current put/call implied volatility skew chart showing the call implied volatility at 100.24 at .42 of its 52-week range, while the put implied volatility is 60.26 at .14 of its 52-week range.

table

Charts source: IVolatility.com/Advanced Historical Data

Keep in mind, volatility measures both implied and historical are some of the best examples available for regression to the mean. Of course, nobody knows when it will return to the mean.


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Keep in mind, volatility measures both implied and historical are some of the best examples available for regression to the mean. Of course, nobody knows when it will return to the mean.

As for the importance market timing and the never ending quest to get it consistently right, John Magee, the co-author of Technical Analysis of Stock Trends, said many years ago, "Don’t tell me what to buy-tell me when to buy it."


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Summary

While low volatility measures don’t seem to provide early warning signals of market declines, advancing NYSE put/call ratios combined with declining VIX put/call ratios suggest cautious positioning by hedgers. However, like other sentiment indicators, the most useful signals come at the extremes and so far, the best signals confirm when pullbacks are ending.

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We now offer daily trading ideas from our RT Options Scanner before the close in the News section of our home page based upon active calls and puts with increasing implied volatility and volume.

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Next week will include a brief market review including a crude oil update along with some specific trade suggestions from our rankers and scanner tools.

Finding Previous Issues and Our Reader Response Request

All previous issues of the Digest can be found by using the small calendar at the top right of the first page of any Digest Issue. Click on any underlined date to see the selected issue. Another source is the Table of Contents link found in the lower right side of the IVolatility Trading Digest section on the home page of our website.

CommentAs usual, we encourage you to let us know what you think about how we are doing and what you would like to see in future issues. Send us your questions or comments, or if you would like us to look at a specific stock, ETF or futures contract, let us know at Support@IVolatility.com or use the blog response at the bottom of the IVolatility Trading Digest™ page on the IVolatility.com website. To receive the Digest by e-mail let us know at Support@IVolatility.com

 

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