* Put/call ratio drops to 0.9 from 2.5 in past 3 weeks
* Traders say 'don't fight the ECB'
* Sharp rally followed similar rush to buy calls last Nov
By Sudip Kar-Gupta and Blaise Robinson
LONDON/PARIS, Sept 2 Traders are buying up
'call' options betting on a gradual move higher in European
stock markets, as expectations grow of new stimulus measures
from the European Central Bank.
The ratio measuring the number of negative 'put' options
versus bullish 'call' options on the euro zone's blue-chip Euro
STOXX 50 index - the most liquid European market for
options traders - has dropped sharply in the past three weeks,
to 0.93 currently from 2.45 on Aug. 8.
A ratio below 1 usually signals investors are bullish, while
a ratio above 1.5 signals they are turning cautious, buying
'puts' as a hedge for their equity portfolios in case of a
Comments by ECB President Mario Draghi in late August
sparked market bets that the central bank is preparing to pump
more liquidity into the system, possibly via purchases of
government or corporate bonds, a measure known as quantitative
easing (QE), to reinvigorate the stuttering euro zone economy
and stave off the risk of deflation.
"Don't fight the ECB," Saxo Bank trader Pierre Martin said.
"The mood is quite positive after Draghi's comments which
confirmed that the bank is determined to fight deflation."
After a strong start to 2014, Europe's stock market rally
started to fizzle out in June, hit by mounting concerns about
the region's weak economic recovery and risks of deflation.
The Euro STOXX 50 is now up just 2.5 percent this year,
having lost 4 percent since hitting 3,325.50 points in June, its
highest level in around six years.
The conflict in Ukraine, which has prompted Europe to impose
sanctions on its third-biggest trade partner Russia, has further
dented Europe's faltering economic recovery.
This backdrop has raised the likelihood of new stimulus
measures from the ECB. Sources from within the central bank told
Reuters last week that new action at its meeting this Thursday
was unlikely but not impossible, and that the barrier to QE was
still "very high".
While most market participants do not expect the ECB to take
major easing steps this week, further measures are considered a
matter of 'when' and not 'if', in the face of risks to euro zone
growth posed by low inflation and the Ukraine conflict.
There was a similar rush to buy 'calls' - particularly on
euro zone banking stocks - last November following a surprise
interest rate cut by the ECB, as traders bet the sector would
benefit from the central bank's ultra-loose monetary policy.
The STOXX euro zone banking index surged 20 percent
in the following five months.
Phoebus Theologites, chief investment officer at SteppenWolf
Capital, said he would buy Euro STOXX 'call' options for early
next year since he did not expect the full impact of any new ECB
measures to be felt until the first quarter of 2015.
"We will buy longer-dated Euro STOXX 50 calls, as we believe
it will take six to nine months for any trickle-down effects of
QE to be felt," Theologites said.
Barclays derivatives strategists also backed using a 'call
spread' strategy on European banking stocks. Banks are expected
to outperform on any QE measure from the ECB since they can
borrow money from the central bank at practically zero percent
and then lend it at a slightly higher rate for a profit.
The call spread trade involves two options exercisable at
prices above the current spot level. The investor buys a call
option, which gives the right to buy the index, at the lower
price, and sells a second option, that effectively requires the
investor to sell, at the higher price - essentially betting on
only a slow move higher in the market.
The idea of European stock markets moving only gradually
higher on any new ECB action was also supported by Paul Gleeson,
who heads Arcanum Asset Management.
Gleeson said he would look to sell 'calls' on the Euro STOXX
50 with a strike price of 3,350 points, and also sell 'puts' on
the index with a strike price of 2,900 points. The blue-chip
index was up 0.7 percent at 3,196.88 points on Tuesday.
"QE has been a major topic of conversation amongst many
hedge fund managers claiming that it is distorting the market,"
"For September, we're not sure what will happen but, based
on our historical price movement analysis, it is unlikely that
the market will trade as high as 3,350 or as low as 2,950 before
options expire on Sept. 19."
(1 US dollar = 0.7611 euro)
(Editing by Susan Fenton)