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Tags: Option | Traders | Bearish | stocks

Option Traders Becoming Extremely Bearish Could be Good Sign

By    |   Tuesday, 05 June 2012 08:58 AM EDT

The month of May turned out to be one of the worst months for U.S. stocks in the last three years with a loss of 6.2 percent. When you add the damage done on Friday, the S&P has erased all of the huge gain from the first quarter in the second quarter.

With this selling pressure has come a big shift in investor sentiment and in particular the CBOE Equity Put/Call ratio.

Rather than looking at the daily readings of the ratio, I like to watch the 21-day moving average as it provides a smoothing element for approximately one month of trading days.

As of Friday, the 21-day moving average for the ratio has jumped to a reading of 0.7938 which is the highest reading since last August.

If the 21-day moving average should continue to rise and move above 0.81, it would be the highest reading since December 2008.

Seeing such extreme levels of pessimism is encouraging as it indicates that the pendulum may have swung too far to the bearish side.

If we have learned anything from investor sentiment over the course of time, it is when we see extreme swings to one side or the other, the pendulum is about to swing back the other way.

In this case, the extreme pessimism means that the recent pullback is likely coming to an end and soon.

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Tuesday, 05 June 2012 08:58 AM
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