PCR Option Trading

Oct 10

Investors use several financial measures to gauge the market temperament before parking their money into the same. Put call ratio is one such financial tool which proves useful for investors in more than one way.

To understand the application and role of this financial measurement one needs to be well-versed in its basics. Here, we have elucidated the nitty-gritty of the same, including the put call ratio formula and other facts.

Put Call Ratio Meaning
Typically, a put-call ratio is a derivative indicator. It is designed to enable traders to determine the sentiment of the options market effectively. This ratio is computed either by factoring in the open interest for a given period or based on the volume of options trading.

Also known as PCR, this particular ratio serves as a contrarian indicator and is mostly concerned with options build-up. Such an indicator helps determine the extent of bullish or bearish influence in the market.

In other words, it helps traders to understand whether a recent increase or decrease in the market is excessive or not.

Based on this information, traders decide if they should opt for a contrarian call in the prevailing market.

Such an investment strategy is based on the practice of purchasing or selling investment units against the prevailing market conditions, to combat mispricing in the securities market.

How is Put Call Ratio Calculated?
Before learning about the put call ratio formula, it is crucial to understand the components of this ratio individually.

For instance, the put option provides traders with the right to purchase assets at prefixed prices, whereas, the call option offers the right to purchase assets at the current market prices.

Put call ratio calculation can be done in the following ways -

Based on Open Interests of a Specific Day
PCR is computed by dividing open interest in a put contract on a particular day by open call interest on the very same day.

PCR (OI) = Put Open Interest/ Call Open Interest

Based on the Volume of Options Trading

Here PCR is computed by dividing the put trading volume by the call trading volume on a specific day.

PCR (Volume) = Put Trading Volume/Call Trading Volume

Here, Put volume indicates the total put options initiated over a specific time-frame. Conversely, Call volume indicates the total call options initiated over a specific time-frame.

Notably, the interpretation of this said ratio differs as per the type of investor.