by Beth Gaston Moon | March 6, 2012 1:51 pm
There are varying schools of thought when it comes to the put/call ratio as a trading indicator. Some may take it at face value: More puts mean more bearishness toward the underlying stock or ETF, while more calls mean more bullishness.
The vast majority of options-trading analysts, however, assume a contrarian read of this indicator. In other words, if put volume is high, signifying bears, then it’s only a matter of time until the trend normalizes and the bulls retake control. Contrarily, if put open interest is low, it could be a sign that a bearish reversal is around the corner.
Finally, there are those who dismiss the indicator outright, arguing that the nuances of options trading makes the ratio far from cut and dried. For example, if a large percentage of the puts or calls were sold to open (instead of purchased), it reflects a different type of sentiment entirely.
Just as there is no Holy Grail when it comes to investing, there is no right answer for interpreting an indicator. What is the right thing to do is to take note of other factors (earnings, technical performance, etc.) if you choose to include this ratio figure in your analysis. Many feel the combination of fundamental strength, solid price action and a high put/call ratio are a good recipe for a bullish play.
Following that line of reasoning, here are three stocks that fit the bill. For the individual stocks’ put/call ratio, I’m using data only for the front three-months’ of options, which is a better reflection on the mindset of speculative traders. Put/call ratio data is courtesy of Schaeffer’s Investment Research.
Sales at Home Depot (NYSE:HD) have been increasingly healthy, and earnings are up more than 16% year-over-year. Meanwhile, the shares have gained 44% over the last six months and are perched near their 52-week high. Despite this backdrop, the stock’s put/call ratio has zoomed higher to 1.99 (a 52-week high for the indicator). That means there are basically twice as many puts as there are calls among the short-term options series. The stock’s technical strength could be augmented going forward if bearish options players begin to change their collective tune.
The Mouse has been in a steady uptrend since early October, with Disney (NYSE:DIS) gaining 40% along nice solid support from its 10-day and 20-day moving averages. Its price/earnings ratio is below its entertainment-industry peers, it has topped analysts’ earnings expectations in four of the last five quarters and it stands to benefit — according to Bernstein media analyst Todd Juenger — from “organic growth projects not priced into the stock.” Disney’s put/call ratio, however, currently stands at 1.09, with puts narrowly outpacing calls. This is a two-month high in the indicator.
Microsoft (NASDAQ:MSFT) released its Windows 8 Consumer Preview last Wednesday, immediately prompting 1 million downloads. And so far, reviews have been largely positive. MSFT shares are up 22% year-to-date and hit a new 52-week high late last week. From a longer-term technical perspective, the stock has made a clear break above historical resistance at the $30 level, and some analysts feel a move to $40 is “realistic.”
The stock’s put/call ratio is currently at 0.93. While this technically means there are still 100 calls for every 93 open puts, what’s interesting is the historical significance of this reading. A ratio of 0.93 for MSFT is in the 97th percentile. In other words, this ratio has been higher only 3% of the time over the last year. So, option players are firmly in the bearish camp. The question is: Will they stay there?
Overall, the CBOE equity put/call ratio (across all optionable equities) is 0.73. This has crept steadily higher from the beginning of the year, when it weighed in at 0.55. The 52-week high for this ratio was 1.11, reached in mid-June.
As of this writing, Beth Gaston Moon does not own any shares mentioned here.
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