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Yesterday a market wise Minyan made the argument that cheap calls mean that no one believes in the upside in this market. I could not disagree more.

Almost all sellers of calls are over-writers, investors that are long stock and selling calls against it to earn some premium. Granted, they obviously think that the upside is limited, but they also (and more predominately) think that the downside is limited as well. In sum, they believe that the market just isn't going anywhere. They are complacent.

Almost all sellers of puts sell them naked. Again they sell them to earn premium and this position of short naked puts is analogous to being long stock and short calls, as is the case above. Enough said. They are complacent.

The only way to interpret cheap option prices is complacency: participants do not believe the market will move much.

It is an entirely different question to ask whether or not options are cheap. Implied volatilities, with fits and starts, have been dropping over the last several months. They are clearly cheaper, in general, than they have been over the last four years. Index implied volatilities are still higher than they were in the 1980's, but I have described that phenomenon before. Options will never again be as cheap as they were before 1987.

In general I believe that there is complacency and that complacency has been enforced by massive worldwide liquidity created by central banks. But the result of this liquidity has been an increase in debt.

I have been chastised by several Minyans privately about my "fixation" on debt. I have gone into detail on this in past pieces and I don't want to dwell on it again. I don't believe that I have a problem with debt, just the current level and use of it.

This introduces a level of risk that I believe is substantial and that option prices are not discounting.
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