Tuesday, May 21, 2013

SPY Equity Put Call Ratio (EPCR)

The Equity Put Call Ratio (EPCR) is currently at an extreme low. This can be thought of as an indication of a pending reversal for the broad stock market (SPY). Over the past year, the EPCR has been a more productive tool for bulls than bears as we have illustrated on the chart below..
In an unscientific approach to investigating the performance of the EPCR as an indicator, we circled the eight most extreme bullish (green circles) and bearish (red circles) signals. We then observed the subsequent price direction of the SPY. Favorable results were marked with a "thumbs up", unfavorable results were marked with a "thumbs down".
The results showed six successful bullish signals out of eight, but only three successful bearish signals out of eight.
There are a number of conclusions that can be drawn from this, but the two most important observations we see are; (1) timing indicators, such as this, are much less useful in trending markets, particularly those signals that conflict with the predominate trend; (2) the strength of the predominate trend can be confirmed by more frequent violations of indications contrary to the trend. Concerning today's market, five out of five bearish indications have failed since December. This speaks to the strength of the current rally which translates to the difficulty of timing a reversal or pullback.