{"id":17010,"date":"2022-12-08T16:30:21","date_gmt":"2022-12-08T16:30:21","guid":{"rendered":"https:\/\/www.5paisa.com\/finschool\/?post_type=finance-dictionary&p=17010"},"modified":"2024-09-19T18:39:34","modified_gmt":"2024-09-19T13:09:34","slug":"put-call-ratio","status":"publish","type":"finance-dictionary","link":"https:\/\/www.5paisa.com\/finschool\/finance-dictionary\/put-call-ratio\/","title":{"rendered":"Put Call Ratio (PCR)-Definition, Formula and Importance"},"content":{"rendered":"\t\t
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If you are a frequent trader in options, you must be aware about the term Put Call Ratio (PCR).<\/strong> Investors use this PCR to access the market whether it is bullish or bearish.\u00a0 It is an instrument through which one can determine mood of the options market.\u00a0 <\/span><\/p>

But before we begin with the topic it is important to understand few concepts mentioned below<\/em><\/span><\/p>

As we mentioned Put Call Ratio is used by Options Traders So What are Options?<\/strong><\/span><\/h2>

An Option is a contract which allows an investor to buy or sell an underlying instrument like a stock or even index at a predetermined price over a certain period of time for which premium is paid by the buyer to the seller. \u00a0\u00a0Options contracts expire on the last Thursday of the month.\u00a0<\/span><\/p>

For example<\/u><\/strong>:\u00a0 <\/strong><\/span><\/p>

Mr. Sham wants to buy share of the company A which is currently trading at Rs 600. Mr. Sham feels that the share price would rise in future and would go up to Rs 700. Here Mr. Aman holds shares of Company A and he wants to sell the shares as he feels the price might further go down. So here Mr. Sham enters in to the contract with Mr. Aman specifying a strike price of Rs 700. He pays a premium amount of Rs 50 to Mr. Aman. Here we have to understand that Mr. Sham will execute the contract only if the share price goes above Rs 600.<\/span><\/p>

Which means Mr. Sham has the choice to exercise the contract and there is no obligation or compulsion that he should execute the contract. If suppose the share price falls below Rs 600, Mr. Sham will not execute the contract and will incur loss for the premium amount paid and if the share price goes up to Rs 800 Mr. Sham will execute the contract and buy the share from the seller at Rs 700 and sell in the market at Rs 800 and earn profit.<\/span><\/p>

So now that we know what is Options lets understand it Types i.e. Put Option and Call Option<\/em><\/strong><\/span><\/p>

Put Option <\/u><\/strong><\/span><\/p>

Put Option gives the buyer the right but not the obligation to sell an asset. A Put Option buyer believes the stock prices will fall. Put Option seller maximum loss is strike price minus premium amount. For example let\u2019s say Mr. Aman believed that his share price would fall down further to Rs 600. So in case of Put option Mr. Aman will decides a strike price of Rs 550. And if the prices fall below Rs 550 to Rs 400 Mr. Aman will execute the contract at Rs 550 and earn profit.<\/span><\/p>

Call Option<\/u><\/strong><\/span><\/p>

Call Option gives the buyer the right but not the obligation to buy an asset. A call option buyer believes that the prices will rise. For a call option buyer the loss is limited to the premium paid. For example Mr. Sham in the above example believed that Share price would go up from Rs 600 to Rs 700. So in this scenario he will execute the option contract and earn profit of Rs 100. But if the prices fall down from Rs 600 he will not exercise the contract. The logic here is very simple. If the share price are falling below it is better to buy the share market rather than purchasing it from the seller.<\/span><\/p>

In both the cases we should remember that the contract has expiry Date and the share prices should rise or fall before the expiry date. The contracts would then expire worthlessly or there may be additional charges levied for the same. So don\u2019t forget to square off your options contract before expiry!<\/strong><\/span><\/p>

Now that we are clear with our basic terms Let us understand\u00a0 our topic<\/strong><\/span><\/p>

What is Put Call Ratio?<\/strong><\/span><\/h2>

\"\"<\/span><\/p>

Put Call Ratio is a popular derivative indicator or measurement of the volume of Puts to the Volume of Calls within a specified period of time. Here the objective is to determine the mood of the market or predicting the future price action. A High Put Call ratio indicates that the markets are currently bearish whereas lower Put Call Ratio indicates the market is bullish.\u00a0<\/span><\/p>

Put Call Ratio Calculation <\/strong><\/span><\/h2>

The Put\/Call Ratio has two formulas<\/span><\/p>

  1. PCR= Put Volume \/ Call Volume, where Put volume and Call volume are the number of Put and Call options traded over a specific day.<\/strong><\/span><\/li><\/ol>

    Example:<\/strong><\/span><\/p>

    On a particular Day total number of Puts traded is 1500 and Total Number Call option traded is 2000 then the<\/span><\/p>

    PCR ratio<\/strong> = 1500\/2000<\/strong><\/span><\/p>

    \u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0 \u00a0\u00a0\u00a0= 0.75<\/strong><\/span><\/p>

    Points to be noted:<\/span> <\/strong><\/span><\/p>