OPTIONS
Incorporating Price And Volume
Dollar-Weighted Put/Call Ratios
by Fari Hamzei
and Barbara Star, Ph.D.
Does this new twist on the popular sentiment indicator hold some
predictive value? Find out here.
Many years have passed since Martin Zweig
used end-of-day option trading activity to create the put/call ratio. Since
then, it has been widely followed as a measure of market sentiment. It
reflects the emotional aspect of trading by identifying the degree to which
traders feel optimistic or pessimistic about near-term market direction.
Because it reveals what traders are thinking, many believe that the put/call
ratio holds some predictive value.
The original put/call ratio is based on total option contract volume
for the day. It aggregates all put and call option volumes into one ratio.
But options traders know that prices fluctuate throughout the day, and
thus, not all contracts for a given stock or index are created equal. Wouldn't
it make more sense to track changes in option trading on a real-time basis
and incorporate both price and volume in the calculation? That was the
premise Fari Hamzei wanted to test. He managed to create the code and gather
the information needed to produce real-time, dollar-weighted put/call ratios,
thanks to improved computer technology and Internet speed.
For the past three years, HamzeiAnalytics.com has been taking the emotional
temperature of traders on an intraday basis. The company monitors 225 actively
traded stocks, plus market indexes and actively traded sector exchange-traded
funds (ETFS), using real-time, dollar-weighted put/call ratios. Hamzei
found that tracking the intraday dollar-weighted put/call ratios made it
possible to isolate potential explosive short-term price moves.
...Continued in the April issue of Technical Analysis of STOCKS
& COMMODITIES
Excerpted from an article originally published in the April 2004
issue of Technical Analysis of STOCKS & COMMODITIES magazine. All rights
reserved. © Copyright 2004, Technical Analysis, Inc.
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