Sunday, August 25, 2002 11:56:38 AM
Using the Put/Call Ratio for Intermediate-Term Trading
Another useful tool that can be used for intermediate-term trading is the CBOE Total Equity Put/Call ratio. Athough normally it is used as a short-term trading tool (1-3 days), it has some applications for locating intermediate-term tops and bottoms too. I'll cover two of them in this article.
As usual, let's begin with a 3-year chart of QQQ for comparison purposes (so that you can see where the tops and the bottoms are):
>
1) Using the Put/Call Ratio alone.
Now, let's plot the Put/Call ratio with a 21-day simple moving average on it:
>
The first trading system says to go Long when this 21-dma makes a top and turns down and go Short when it makes a bottom and turns up. The particular levels at which it makes a top or a bottom are not of importance for this system. The system is advocated by Lawrence McMillan (of the "Options as a Strategic Investment" fame). When I asked him how exactly to determine that the 21-dma has made a top or a bottom (not an easy thing to do when you're looking at the right edge of the chart), he replied
"A top is a local maximum that lasts for at least 10 days. A bottom is a local minimum that last for at least 10 days."
You can combine this idea with indicators normally used for short-term trading, too. For instance, usually when the Put/Call ratio reaches within 5% of one of its Bollinger bands, it is likely to reverse and make a move in the opposite direction. Since it is a contrarian indicator, one is supposed to bet on the market doing the opposite. (Like, expect the market to go up when the CPC reaches the upper Bollinger band and expect it to go down when it reaches the lower band. I don't trade the short term, however.)
Well, normally, the Bollinger bands are drawn with a period of 20. Also, the middle band is actually a simple moving average. So, here is the idea - simply use Bollinger bands with a period of 21. This will not have any significant impact on what they are saying for the short term and you can use the middle band (a 21-dma) to also trade the intermediate term, as explained above:
>
(I've drawn the above chart on a shorter time-frame, so that the frequent osciallations of the indicator don't obscure the moving average.)
2) Using the Put/Call Ratio in combination with the S&P-100 Implied Volatility Index.
The next system uses the ratio between the CPC and the VIX. Simply plot 200- and 21-day simple moving averages on the chart of this ratio and trade the cross-overs:
>
That is, go Long when the shorter-term MA crosses below the longer-term one and reverse to Short when the opposite cross-over occurs.
Regards,
Vesselin
Another useful tool that can be used for intermediate-term trading is the CBOE Total Equity Put/Call ratio. Athough normally it is used as a short-term trading tool (1-3 days), it has some applications for locating intermediate-term tops and bottoms too. I'll cover two of them in this article.
As usual, let's begin with a 3-year chart of QQQ for comparison purposes (so that you can see where the tops and the bottoms are):
1) Using the Put/Call Ratio alone.
Now, let's plot the Put/Call ratio with a 21-day simple moving average on it:
The first trading system says to go Long when this 21-dma makes a top and turns down and go Short when it makes a bottom and turns up. The particular levels at which it makes a top or a bottom are not of importance for this system. The system is advocated by Lawrence McMillan (of the "Options as a Strategic Investment" fame). When I asked him how exactly to determine that the 21-dma has made a top or a bottom (not an easy thing to do when you're looking at the right edge of the chart), he replied
"A top is a local maximum that lasts for at least 10 days. A bottom is a local minimum that last for at least 10 days."
You can combine this idea with indicators normally used for short-term trading, too. For instance, usually when the Put/Call ratio reaches within 5% of one of its Bollinger bands, it is likely to reverse and make a move in the opposite direction. Since it is a contrarian indicator, one is supposed to bet on the market doing the opposite. (Like, expect the market to go up when the CPC reaches the upper Bollinger band and expect it to go down when it reaches the lower band. I don't trade the short term, however.)
Well, normally, the Bollinger bands are drawn with a period of 20. Also, the middle band is actually a simple moving average. So, here is the idea - simply use Bollinger bands with a period of 21. This will not have any significant impact on what they are saying for the short term and you can use the middle band (a 21-dma) to also trade the intermediate term, as explained above:
(I've drawn the above chart on a shorter time-frame, so that the frequent osciallations of the indicator don't obscure the moving average.)
2) Using the Put/Call Ratio in combination with the S&P-100 Implied Volatility Index.
The next system uses the ratio between the CPC and the VIX. Simply plot 200- and 21-day simple moving averages on the chart of this ratio and trade the cross-overs:
That is, go Long when the shorter-term MA crosses below the longer-term one and reverse to Short when the opposite cross-over occurs.
Regards,
Vesselin
Join the InvestorsHub Community
Register for free to join our community of investors and share your ideas. You will also get access to streaming quotes, interactive charts, trades, portfolio, live options flow and more tools.
