Identifying Trades With The Option Premium Ratio by Christopher Cadbury
What is the option premium ratio? Simply, the option premium ratio is the ratio of price premiums on puts relative to price premiums on calls. It covers all listed equity options.
As explained in previous articles, this ratio has some remarkable characteristics relating to momentum. I have found that significant market rallies follow the positive momentum supplied by several consecutive days of gains or unchanged values in the ratio and by several consecutive daily gains in the Dow Jones Industrial Average (DJIA) at low levels in the ratio. DJIA declines are established by the negative momentum of several straight days of losses in the ratio and several straight days of losses in the DJIA at high values in the ratio.
The option premium ratio is the fifth psychological variable found on the page of General Market Indicators in Investor's Business Daily. Since 1986, the ratio has ranged from 0.03 to 1.74 each day. Except for bear markets and rampaging bull market legs, the values of the option premium ratio have remained between 0.29 and 1.18. The median values for the ratio have been far less than the mean over the last seven years, staying in the low to mid-0.60s.