Equity Put/Call Ratio In Uncharted Territory

Insights | Equity Put/Call Ratio In Uncharted Territory

Author: David I. Templeton, CFA, Principal and Portfolio Manager

Recent levels for the equity put/call ratio suggest investors are exhibiting extreme equity market bearishness. A cluster of readings above 1.0 have occurred since November. The equity P/C ratio measures the sentiment of investors by dividing put volume by call volume. Investors purchase put options to protect an equity portfolio from market declines. At the extremes, this particular measure is a contrarian one; hence, P/C ratios above 1.0 signal overly bearish sentiment from the individual investor as put volume outpaces call volume. As the below chart shows elevated readings have been the norm of late.

Equity put/call ratio December 8, 2022

A longer-range view of the chart as seen below shows the extreme high level for the ratio going back to 1997.

Equity put call ratio back to 1997

In order to smooth potential volatility in the P/C reading, reviewing the ratio's 21-day moving average can be beneficial. At a time when the average is trending higher, the equity market tends to face headwinds. As the average declines though, equities face less of that headwind in a sign investors are less bearish on the equity market.

21-day moving average of the equity put/call ratio. December 8, 2022

Lastly, sentiment data from The American Association of Individual Investors' weekly Sentiment Survey continues to indicate investors are expressing bearishness on the equity market. This week's bullish reading was reported at 24.7% versus the week earlier reading of 24.5. The bull/bear spread remains negative at -17.1%.

AAII Bullish Sentiment as of December 7, 2022

As noted in prior posts, these sentiment readings are viewed as contrarian indicators. In other words, if investors are expressing a low level of bullishness, stated another way, a high level of bearishness, then this is viewed as bullish for future equity market returns. No measure should be viewed in a vacuum; however, individual investor sentiment is leaning more bearish at this point in time.

HORAN Capital Advisors, LLC is an SEC registered investment advisor. The information herein has been obtained from sources believed to be reliable but we cannot assure its accuracy or completeness. Neither the information nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. Any reference to past performance is not to be implied or construed as a guarantee of future results. Market conditions can vary widely over time and there is always the potential of losing money when investing in securities. HCA and its affiliates do not provide tax, legal or accounting advice. This material has been prepared for informational purposes only and is not intended to provide and should not be relied on for tax, legal or accounting advice. You should consult your own tax, legal and accounting advisors before engaging in any transaction.