A Clear-Eyed Look at Mid-Cap Put Activity

The SPDR S&P MidCap 400 ETF (MDY) has joined enthusiastically in the stock market's breakout to new record highs in 2017, as MDY topped out at $320.48 on March 1. And from a longer-term perspective, the mid-cap tracker has been climbing higher for over a year, with this uptrend neatly punctuated by MDY's rising 20-day, 50-day, and 200-day moving averages.

With this solidly bullish technical backdrop in mind, the below chart of MDY's current open interest configuration might seem, on its face, to carry some contrarian implications of the "slam dunk" variety. Call open interest fell off a cliff in late 2016 and has yet to recover much ground, which has allowed MDY put options to emerge as the most popular option type -- a notable development, given the rather obvious dominance of calls over the course of much of the past year.

As of Friday morning, there were 45,349 MDY puts in open interest, per Trade-Alert -- an accumulation outranking 94% of comparable daily readings over the last year, and not too far removed from the Jan. 20 peak of 47,755. By contrast, only 32,816 MDY calls were open, which ranks below 93% of other such readings from the prior 52 weeks. So at the same time MDY puts are unusually popular, we find that MDY calls are unusually unpopular.

After reviewing some of the top MDY option trades of 2017, though, it seems there may be a single explanation behind both developments -- and it's one that appears to negate the surface-level takeaway that options traders have become drastically less bullish and more bearish when it comes to mid-cap stocks.

Consider the top two open interest strikes on MDY, which are the September 290 and 305 puts. Both carry just over 5,200 contracts in open interest, the bulk of which were added back on Feb. 1 (when MDY settled at $305.81). Data from the International Securities Exchange (ISE) reveals this open interest was added as the result of a short put spread, with the trader poised to retain the maximum possible profit if MDY closes at or above the sold 305 strike by the time September-dated options expire. This is an intermediate-term bet that MDY will at the very least hold steady on the charts and avoid a substantial drawdown or correction over this time frame, even if the mid-cap sector's ascent to new highs should stall or cool somewhat.

Switching to a shorter-term view, MDY's deep out-of-the-money March 270 put is the top front-month strike, with nearly 4,200 contracts open. Again, most of the activity here was seller-driven, with one firm selling to open 3,000 of those puts back on Jan. 5 (as MDY traded comfortably above the $300 century level).

Perhaps the most objective takeaway from this trend toward selling to open MDY puts is that traders want to take part in the bullish mid-cap momentum, but they're not quite so convinced of substantial upside ahead that they're willing to commit their dollars to call options. While the options trades themselves are neutral-to-bullish, the mindset driving these put-selling strategies reveals a tinge of skepticism as to whether MDY can extend its rise. And while this low-key reticence is far from the "wall of worry" on which bull markets are built, it's also a far cry from the explosive bearish sentiment a surface-level analysis of this open interest data would suggest.