Steve -- Could you give a brief explanation of the VIX and the put/call ratio as it relates to small investors? Thanks -- B.C.Many people have become overly fascinated with the VIX, the CBOE Market Volatility Index. Maybe because dubbing it "the fear index" gives it a certain flair. Or maybe it's simply that people feel more comfortable trying to outwit the market and their fellow investors based on psychological warfare, rather than hunkering down in the trenches of fundamentals. The VIX and put/call ratio are two of the most widely known -- and directly related to options -- measurements referred to as sentiment gauges. One pretty interesting Web site, sentimenTrader.com, tracks 60 such indicators. The reason so much brain power is applied to researching and tracking this data is the concept that the two great forces driving stock prices are fear and greed. Based on the premise that the majority of people will be wrong at any given moment, extreme sentiment readings are used as contrary indicators. For a review of how the VIX is calculated, please see my
But to an investor, large or small, with a time horizon of least two years, those numbers don't mean much in that these price movements tend to have little correlation to underlying prices over a period of time 12 months or greater in length. While the VIX and the put/call ratio are supposed measures of fear or bearishness, they need not move in tandem since different elements go into the calculation of each. For example, this past Thursday, the put/call ratio jumped from 0.67 to a midday reading of 1.43, while the VIX declined 1.3% to 23.8. The main culprit for the divergence was the purchase of 100,000 Nasdaq 100 Unit Trust ( QQQ) puts. This example of a single trade skewing the reading is why some people prefer to track the put/call on an equity-only basis (meaning they exclude exchange-traded funds and index options) using a 20-day moving average. Generally speaking, a reading above 1.5 is considered high, and anything above 2.0 would be extreme. Of course, put/call ratios can be applied to individual issues to gauge the relative pessimism in a particular stock. Simply divide the total number of put contracts open by the number of calls. An individual stock's proxy for a VIX reading would be the current implied volatility for the at-the-money strikes. But remember, these readings provide only short-term clues to possible pricing dynamics. For a more detailed look at interpreting option action, check out
this article . Most equity option classes are rolled out on a six-month basis. As May expires you should see November come on line. And so on. LEAPs are typically issued on a one- to three-year basis, with their expirations occurring in January. That's why you won't see any other options with a 2004 expiration until August, at which point February 2004's options should come on stream. Smaller-cap names or less-active issues may skip months that don't align with the traditional quarterly expiration cycle. That means you might not see a September class of options until August.