Q2 STOCKS TO BUY

What Happens After This Equity ETF Options Ratio Gets Low

There have been only 10 prior signals like this since 2008

Editor-in-Chief
Jul 30, 2019 at 7:12 AM
facebook X logo linkedin


One of the option-based indicators our research team has been tracking for quite some time now is the 20-day put/call ratio for combined buy-to-open volume across the SPDR S&P 500 ETF Trust (SPY), iShares Russell 2000 ETF (IWM), and Invesco QQQ Trust (QQQ). These three exchange-traded funds (ETFs), with combined assets under management (AUM) of $395.62 billion, offer wide and deep exposure to the U.S. large-cap, small-cap, and tech stock spaces.

Historically, we've noted a tendency for the S&P 500 Index (SPX) to rise when this SPY/IWM/QQQ put/call ratio is moving higher -- which has led us to theorize that the increased put activity on these broad-based ETFs is generally indicative of hedged players buying put options on SPY, IWM, and/or QQQ as they simultaneously accumulate shares. That's why we're watching with great interest right now as this ratio moves now off its lows of the year, set as recently as a couple of weeks ago.

Specifically, Schaeffer's Quantitative Analyst Chris Prybal notes that the 20-day SPY/IWM/QQQ buy-to-open put/call ratio fell as low as 1.35 on July 11, and now stands at 1.42. It's primarily put buying on QQQ that has driven the cumulative ratio higher, which suggests investors are dipping their toes into tech; in fact, the small-cap focused IWM's put/call ratio had fallen below the 1.0 threshold as of Friday, according to Prybal.

It's rare for this options indicator to drop to such extreme lows -- and while SPY has lost ground lately, in terms of inflows, to lower-cost competitors like the Vanguard S&P 500 ETF (VOO) and iShares Core S&P 500 ETF (IVV), it's still dominant in terms of options activity. As of Friday, total open interest on IVV was fewer than 7,600 contracts, and VOO hasn't quite mustered 5,200 contracts in total open interest. Meanwhile, there are no fewer than 18 million-plus puts and calls open on SPY. So, presuming that traders who proactively choose to save their pennies on ETF fees would most likely opt to do the same when it comes to option bid/ask spreads, it looks like the extremely liquid SPY options market is still the place to be for those looking to hedge long equity exposure.

Given the anomalous reading earlier this month, Prybal ran the numbers to see how the SPX fares going forward after the SPY/IWM/QQQ put/call ratio breaks below 1.50 (eliminating for some redundant signals). There have been only 10 occurrences since 2008, and it's interesting to note the timing of prior signals: in late November 2008, as lame-duck lawmakers on Capitol Hill haggled over an automaker bailout in the first waves of the financial crisis; in March 2009, just days after what would prove to be the S&P bear-market bottom; in October and November 2018, right as global stocks were crushed by a quarter-long sell-off; and in May 2019, amid a month-long bout of weakness for equities we likely remember all too well at this point.

Lows like this in the SPY/IWM/QQQ put/call ratio don't always coincide with bruising price action for the S&P, though. Signals also flashed as the S&P was reaching new highs in December 2013, May 2015, and December 2017.

There are few clear takeaways from the S&P's average returns after these signals, as the performance has been considerably mixed (with long-term results skewed heavily to the bullish end of the spectrum by the November 2008 and March 2009 occurrences). But given the laundry list of price extremes with which these prior SPY/IWM/QQQ put/call ratio extreme lows have coincided, these volatility stats are worth mentioning: Following previous dips in this ratio below 1.50, the S&P's standard deviation of returns has been 10.1% at three months out, 13.9% after six months, and 22.7% at 12 months. All three figures outstrip the comparable "anytime" readings of 7.9%, 11.9%, and 15.2%, respectively -- pointing to the possibility for another bout of heightened equity volatility just in time for the fourth quarter.

spy-iwm-qqq put-call ratio low signal

Subscribers to Bernie Schaeffer's Chart of the Week received this commentary on Sunday, July 28.

 
 

“Buy This Stock Now!” - Expert Who Called 11x On TSLA

He called a rare 11x on Tesla…

But now, thanks to Elon & Trump’s new alliance…

He says there’s a new opportunity that could be 1,000x BIGGER than Tesla – and it could completely revolutionize a $23 Trillion market.

It’s trading for less than $5 per share right now…

But it won’t be under the radar for long.

Discover The 1,000x Bigger Elon Opportunity Here

GRAND SLAM COUNTDOWN

 
 

Featured Articles from Trusted Partners:

👀Learn How Dividends Create Passive Income for Life
Receive $200 Off Motley Fool Epic. The Motley Fool Epic $299 discounted offer is based on $499/year list price. Introductory promotion for new members only. Take control of your money and your portfolio with Motley Fool Epic.

💵New Income System Could Pay You $4,243 Monthly
You could collect an average of $4,243 per month starting as early as next week with a new payout system for income investors. New registrations are being accepted for investors who want to be in a position to start with their first payout next week.

🚀Easy 92% Crypto Dividends (No Coins Required)
COIN stock doesn't pay a dividend... But there's actually a new way to collect a massive dividend that's indirectly based on the stock and offers a terrific monthly income (currently yielding nearly 92% on a forward basis).

🤝Free Advisor Match with Wiseradvisor.com
Don't leave your retirement to chance! Get matched with a trusted financial expert for FREE and make the most of your tax refund. Get started now.

⚠️Dennis Quaid's #1 Warning for Americans
Here's the thing: life doesn't come with guarantees. The economy shifts, markets stumble, and years of hard work could slip through your fingers like sand. But it doesn't have to be that way for you. So request a free copy of this Gold & Silver Guide that will arrive right to your doorstep when you act now.

 

 
 

Follow us on X, Follow us on Twitter