Spotting Intermediate-term Tops with the Equity Put/Call Ratio

Following up on last night’s abbreviated column on the CBOE equity put/call ratio, I reviewed some of my older research on the indicator and came across notes regarding the 10-day moving average and the .60 level. You can see from the longer-term chart that since 2001, the moving average has consistently oscillated in the .60 – .80 range. When it breaks the lower end of that range, average equity call volume is approaching twice the level of equity put volume. This “optimism” on the part of options traders has been a good indication that a market top is near. In the table below I’ve extracted every instance since 2003 in which the 10-day average of the equity put/call ratio closed below .60 (date on the left), followed by the date when the average rose back over .605 and the performance of the S&P500 in this time frame…

CBOE Equity Put/Call Ratio 10day Avg & the .60 Level
03/10/10 Under 1145.61… ??/??/?? Over
01/04/10 Under 1132.99… 01/25/10 Over 1096.78… S&P -3.2%
11/16/09 Under 1109.30… 11/20/09 Over 1091.38… S&P -1.6%
10/14/09 Under 1092.02… 10/29/09 Over 1066.11… S&P -2.4%
09/16/09 Under 1068.76… 09/30/09 Over 1057.08… S&P -1.1%
08/07/09 Under 1010.48… 08/19/09 Over 996.46… S&P -1.4%
08/20/09 Under 1007.37… 09/04/09 Over 1016.40… S&P +0.9%
10/09/07 Under 1565.15… 10/19/07 Over 1500.63… S&P -4.1%
07/10/07 Under 1510.12… 07/25/07 Over 1518.09… S&P +0.5%
05/08/07 Under 1507.72… 06/11/07 Over 1509.12…S&P +0.1%
04/26/07 Under 1494.25… 05/01/07 Over 1486.30…S&P -0.5%
01/12/07 Under 1430.73… 01/29/07 Over 1420.62…S&P -0.7%
12/14/06 Under 1425.49… 01/09/07 Over 1412.11…S&P -0.9%
12/11/06 Under 1413.04… 12/13/06 Over 1413.21…S&P +0.0%
11/17/06 Under 1401.20… 12/05/06 Over 1414.76…S&P +1.0%
10/23/06 Under 1377.02… 10/27/06 Over 1377.34…S&P +0.0%
05/10/06 Under 1322.85… 05/12/06 Over 1291.24…S&P -2.4%
05/05/06 Under 1325.76… 05/09/06 Over 1325.14…S&P -0.1%
04/04/06 Under 1305.93… 05/03/06 Over 1307.85…S&P +0.2%
02/21/06 Under 1283.03… 03/07/06 Over 1275.88…S&P -0.6%
01/05/06 Under 1273.48… 02/07/06 Over 1254.78…S&P -1.5%
11/21/05 Under 1254.85… 12/30/05 Over 1248.29…S&P -0.5%
11/03/05 Under 1219.94… 11/17/05 Over 1242.80…S&P +1.9% (*)
09/28/05 Under 1216.89… 10/10/05 Over 1187.33…S&P -2.4%
09/19/05 Under 1231.02… 09/21/05 Over 1210.20…S&P -1.7%
09/12/05 Under 1240.56… 09/15/05 Over 1227.73…S&P -1.0%
08/23/05 Under 1217.59… 08/24/05 Over 1209.59…S&P -0.7%
05/23/05 Under 1193.86… 08/04/05 Over 1235.86…S&P +3.5% (*)
02/28/05 Under 1203.60… 03/02/05 Over 1210.08…S&P +0.5%
02/02/05 Under 1193.19… 02/18/05 Over 1201.59…S&P +0.7%
12/14/04 Under 1203.38… 01/07/05 Over 1186.19…S&P -1.4%
11/08/04 Under 1164.89… 12/09/04 Over 1189.24…S&P +2.1% (*)
07/30/04 Under 1101.72… 08/02/04 Over 1106.62…S&P +0.4%
06/28/04 Under 1133.52… 06/30/04 Over 1140.75…S&P +0.6%
04/27/04 Under 1138.15… 04/29/04 Over 1113.88…S&P -2.1%
04/15/04 Under 1128.84… 04/16/04 Over 1134.57…S&P +0.5%
04/07/04 Under 1140.51… 04/13/04 Over 1129.42…S&P -1.0%
03/02/04 Under 1149.10… 03/09/04 Over 1140.57…S&P -0.7%
02/12/04 Under 1152.11… 02/27/04 Over 1144.94…S&P -0.6%
12/16/03 Under 1075.13… 02/02/04 Over 1135.26…S&P +5.6% (*)
11/28/03 Under 1058.20… 12/10/03 Over 1059.05…S&P +0.1%
10/14/03 Under 1049.48… 10/28/03 Over 1046.79…S&P -0.3%
09/17/03 Under 1025.97… 09/22/03 Over 1022.79…S&P -0.3%
08/19/03 Under 1002.33… 08/27/03 Over 996.79…S&P -0.6%
06/17/03 Under 1011.68… 06/30/03 Over 974.50…S&P -3.7%
06/05/03 Under 990.14… 06/10/03 Over 984.84…S&P -0.5%
03/21/03 Under 895.89… 03/25/03 Over 874.74…S&P -2.4%
01/14/03 Under 931.66… 01/15/03 Over 918.22…S&P -1.4%
01/06/03 Under 929.01… 01/08/03 Over 909.93…S&P -2.1%

Out of 48 occurrences, 31 led to a lower S&P by the time the moving average rose back over .605 for a solid 65% accuracy. In the same period of time, the random chance for a lower S&P ten trading days later (the average length of the signal) is only 42%, indicating heightened equity call volume presents a significant downside edge  over the intermediate-term. Only 4 cases led to an S&P up over 1% by the time the signal was closed out, while 16 led to an S&P down over 1%. This signal was just triggered at Wednesday’s close, interesting timing considering the S&P is just below its January high.

TICKscore closed at +14 Wednesday, sending the cumulative version above its high from last October and wiping out any negative divergence with price. The March 1st move above its January high (ahead of price) was a good early clue that the longer-term divergence was in trouble.

The Russell 2000 2-day RSI closed above 98 for a fourth consecutive session Wednesday, suggesting downside potential is likely to be limited over the next week (not the same as a buy signal, however). See this February 22nd column.

New 52-week highs on the NYSE closed over 400 for a fourth consecutive session Wednesday. There’s only one other comparable period with such an extended number of  new 52-week highs – December ’03/January ’04. Even looking for just three consecutive sessions with over 400 new highs only turns up five separate periods. Interestingly, the market was usually near unchanged levels 2-3 months later…

Three Consecutive Sessions w/ 400+ New 52wk highs
Mar ’10 – ???
Dec ’03 – S&P up 2 months later
Jan ’04 – S&P unch’d 2 months later
June ’03 – S&P unch’d 2 months later
Oct ’97 – S&P unch’d 2 months later
Oct ’82 – S&P unch’d 2 months later

Given some of the setups on the board, a market that goes up and down from this level but ends up nowhere two months later sounds about right. Look for a break in either direction (above SPX 1150, below 1050) to represent a fakeout rather than the beginning of a true breakout move.

Categories : Archived EOD Commentary, End-of-Day Commentary

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