Having a feel or general understanding of the market sentiment is essential to making informed trade decisions. The put-call ratio is a widely used tool for measuring whether the market is bullish or bearish. Do you want to learn how to use the put-call ratio to improve your binary options strategy?
Understanding The Put Call Ratio And How To Use It
The put-call ratio is obtained by dividing the number of put options by the number of call options traded. When traders buy more put options than call options, the ratio increases. This increase in the ratio is indicative of a market that is expected to move slowly. As a result, traders may opt to protect their portfolios through hedging to avoid incurring losses in the event of a sell-off.
Why is the put-call ratio relevant in binary trading?
When the ratio starts to increase, it is indicative of a shift by investors, toward assets that become valuable when the prices fall and not the other way round. The fewer the number of call options traded the higher the value of the ratio will be, because the denominator of the ratio is represented by the call options. When the value of the ratio increases, then the overall market is less bullish and heading toward being bearish.
Often, when the value of the ratio is high, traders will use this as an opportunity to buy in a bearish market. The reasoning behind such a trade move is that soon as other traders who hold a short options position start to sell, the market will adjust from its bullish outlook to a more stable one. While there is no fixed number that shows the ratio is high or low, traders usually monitor for changes in the ratio especially when the ratio surpasses the ordinary range of trading.
Given that the put-call ratio is a sentiment indicator, contrarian traders use it in an effort to maximize their profits. Contrarian traders will be bearish when there are too many bullish traders and bullish when there are too many bearish traders. It is best to use the put-call ratio alongside other indicators such as chart patterns and oscillators to receive clear signals of the market sentiments.