26 August 2009

PutCall Ratio Divinations

The put/call ratio: Is it it predictive or reactive? Maybe a bit of both, just as I think VIX is. But like VIX and volatility in general, it tends to be mean reverting. Extreme readings don't often last a hell of a long time and are often the harbinger of a reversal - or at least a consolidation or retracement in the prevailing trend.

For the medium term view, and the P/C being a very volatile figure, I like the 20DMA of the equity only put/call ratio to find extreme readings.

Here is the last three years of this figure in green, plotted against the SP500:

A close examination highlights the inverse correlation.

The interesting thing for me is that the 20DMA of the equity only put/call ratio is now at its lowest level in the three years of the plot. That in and of itself probably means zip in the predictive sense, but if one wanted to make a case for a pause/consolidation/retracement in the indices sometime very soon, this indicator certainly would add some weight to that hypothesis.

Lots of bears are talking another major down leg, and generally I'm still a bear too, but I doubt we'll see too much downside in the medium term. But I'm making the case for a short term top somewhere around about here.

Some nice sideways action would do my spirit (and my index position) the world of good.

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