Bets on a stock market rally using options just hit record levels

Key Points
  • The "call skew" ratio on the S&P 500 just hit a record high, according to Credit Suisse.
  • With "Trump coming out with a new tax plan, we've seen that upside demand in the market," said Mandy Xu, derivatives strategist at Credit Suisse.
  • Last time there was a spike in the ratio, the benchmark went on to gain another 3 percent in about two weeks.
Michael Nagle | Bloomberg | Getty Images

Traders are buying so many call options right now that the ratio of those contracts to put options hit an all-time high Wednesday, according to Credit Suisse.

A call option is the right to acquire a stock in the future at a preset price. A put option is the right to sell.

"The biggest trend, the most notable thing, is the resumption of the call buying in the S&P," said Mandy Xu, derivatives strategist at Credit Suisse. With "Trump coming out with a new tax plan, we've seen that upside demand in the market."

Xu calls this ratio the "call skew" and here's the chart the bank sent clients Wednesday showing the metric at a record level.

S&P 500 call demand over the last 12 months

Source: CS Equity Derivatives Strategy

The jump in the ratio of call-to-put buyers came ahead of the Trump administration's afternoon announcement on a highly anticipated tax proposal.

Call skew began climbing after the November U.S. presidential election, and the last time call skew hit a record was Feb. 14, Xu said. The S&P 500 climbed about 3 percent in the following days before setting its most recent closing record on March 1.

Stocks and call skew levels then dropped as Republicans pulled their health-care bill, creating worries about whether market-friendly tax reform would be passed. Growing concerns about geopolitical tensions from North Korea to anti-EU sentiment in France also pressured stocks.

'S&P 500 to hit 2,460 over next 12 months'

So far this week, the S&P 500 has rallied nearly 2 percent after the first round of a French presidential election on Sunday that showed centrist candidate Emmanuel Macron remaining the favorite against far-right populist candidate Marine Le Pen.

That said, stocks don't have an all-clear signal. Congress has yet to vote on tax reform, while overseas surprises could rock markets again.

Xu also thinks the bullish bet from call options buyers is probably near its limit around these record levels.

"It's pretty extreme as it is. In order for it to go higher we probably need something more concrete or substantial to extend that," she said.

The S&P 500 is doing something rare and possibly very bullish